Marco Holdings Berhad's (KLSE:MARCO) Conservative Accounting Might Explain Soft Earnings

Marco Holdings Berhad's (KLSE:MARCO) recent soft profit numbers didn't appear to worry shareholders. We think that investors might be looking at some positive factors beyond the earnings numbers.

Check out our latest analysis for Marco Holdings Berhad

Examining Cashflow Against Marco Holdings Berhad's Earnings

In high finance, the key ratio used to measure how well a company converts reported profits into free cash flow (FCF) is the accrual ratio (from cashflow). To get the accrual ratio we first subtract FCF from profit for a period, and then divide that number by the average operating assets for the period. The ratio shows us how much a company's profit exceeds its FCF.

Therefore, it's actually considered a good thing when a company has a negative accrual ratio, but a bad thing if its accrual ratio is positive. While it's not a problem to have a positive accrual ratio, indicating a certain level of non-cash profits, a high accrual ratio is arguably a bad thing, because it indicates paper profits are not matched by cash flow. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

Marco Holdings Berhad has an accrual ratio of -0.11 for the year to December 2020. Therefore, its statutory earnings were quite a lot less than its free cashflow. To wit, it produced free cash flow of RM26m during the period, dwarfing its reported profit of RM14.4m. Marco Holdings Berhad's free cash flow improved over the last year, which is generally good to see.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Marco Holdings Berhad.

Our Take On Marco Holdings Berhad's Profit Performance

Marco Holdings Berhad's accrual ratio is solid, and indicates strong free cash flow, as we discussed, above. Based on this observation, we consider it likely that Marco Holdings Berhad's statutory profit actually understates its earnings potential! And it's also good to see that its earnings per share have improved a bit over the last three years. The goal of this article has been to assess how well we can rely on the statutory earnings to reflect the company's potential, but there is plenty more to consider. So while earnings quality is important, it's equally important to consider the risks facing Marco Holdings Berhad at this point in time. To that end, you should learn about the 3 warning signs we've spotted with Marco Holdings Berhad (including 1 which makes us a bit uncomfortable).

Today we've zoomed in on a single data point to better understand the nature of Marco Holdings Berhad's profit. But there are plenty of other ways to inform your opinion of a company. For example, many people consider a high return on equity as an indication of favorable business economics, while others like to 'follow the money' and search out stocks that insiders are buying. So you may wish to see this free collection of companies boasting high return on equity, or this list of stocks that insiders are buying.

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This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.
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