Cadeler's (OB:CADLR) Sluggish Earnings Might Be Just The Beginning Of Its Problems

A lackluster earnings announcement from Cadeler A/S (OB:CADLR) last week didn't sink the stock price. Our analysis suggests that along with soft profit numbers, investors should be aware of some other underlying weaknesses in the numbers.

See our latest analysis for Cadeler

A Closer Look At Cadeler'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). In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that period. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

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 having an accrual ratio above zero is of little concern, we do think it's worth noting when a company has a relatively high accrual ratio. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Cadeler has an accrual ratio of 0.44 for the year to September 2024. Statistically speaking, that's a real negative for future earnings. And indeed, during the period the company didn't produce any free cash flow whatsoever. Even though it reported a profit of €9.12m, a look at free cash flow indicates it actually burnt through €536m in the last year. We also note that Cadeler's free cash flow was actually negative last year as well, so we could understand if shareholders were bothered by its outflow of €536m. However, that's not the end of the story. We must also consider the impact of unusual items on statutory profit (and thus the accrual ratio), as well as note the ramifications of the company issuing new shares.

That might leave you wondering what analysts are forecasting in terms of future profitability. Luckily, you can click here to see an interactive graph depicting future profitability, based on their estimates.

One essential aspect of assessing earnings quality is to look at how much a company is diluting shareholders. As it happens, Cadeler issued 78% more new shares over the last year. As a result, its net income is now split between a greater number of shares. To celebrate net income while ignoring dilution is like rejoicing because you have a single slice of a larger pizza, but ignoring the fact that the pizza is now cut into many more slices. You can see a chart of Cadeler's EPS by clicking here.

How Is Dilution Impacting Cadeler's Earnings Per Share (EPS)?

As you can see above, Cadeler has been growing its net income over the last few years, with an annualized gain of 225% over three years. But EPS was only up 14% per year, in the exact same period. Net profit actually dropped by 79% in the last year. But the EPS result was even worse, with the company recording a decline of 87%. And so, you can see quite clearly that dilution is having a rather significant impact on shareholders.

If Cadeler's EPS can grow over time then that drastically improves the chances of the share price moving in the same direction. But on the other hand, we'd be far less excited to learn profit (but not EPS) was improving. For that reason, you could say that EPS is more important that net income in the long run, assuming the goal is to assess whether a company's share price might grow.

The Impact Of Unusual Items On Profit

Unfortunately (in the short term) Cadeler saw its profit reduced by unusual items worth €3.9m. In the case where this was a non-cash charge it would have made it easier to have high cash conversion, so it's surprising that the accrual ratio tells a different story. While deductions due to unusual items are disappointing in the first instance, there is a silver lining. We looked at thousands of listed companies and found that unusual items are very often one-off in nature. And that's hardly a surprise given these line items are considered unusual. If Cadeler doesn't see those unusual expenses repeat, then all else being equal we'd expect its profit to increase over the coming year.

Our Take On Cadeler's Profit Performance

In conclusion, Cadeler's accrual ratio suggests that its statutory earnings are not backed by cash flow; but the fact unusual items actually weighed on profit may create upside if those unusual items to not recur. On top of that, the dilution means that shareholders now own less of the company. Considering all this we'd argue Cadeler's profits probably give an overly generous impression of its sustainable level of profitability. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. To that end, you should learn about the 4 warning signs we've spotted with Cadeler (including 3 which are concerning).

In this article we've looked at a number of factors that can impair the utility of profit numbers, and we've come away cautious. But there is always more to discover if you are capable of focussing your mind on minutiae. 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. While it might take a little research on your behalf, you may find this free collection of companies boasting high return on equity, or this list of stocks with significant insider holdings to be useful.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.