We Think Solar Innovation's (WSE:SIN) Robust Earnings Are Conservative

Despite posting some strong earnings, the market for Solar Innovation S.A.'s (WSE:SIN) stock hasn't moved much. We did some digging, and we found some concerning factors in the details.

Check out our latest analysis for Solar Innovation

Examining Cashflow Against Solar Innovation's Earnings

Many investors haven't heard of the accrual ratio from cashflow, but it is actually a useful measure of how well a company's profit is backed up by free cash flow (FCF) during a given period. In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that 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 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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

For the year to December 2021, Solar Innovation had an accrual ratio of -0.57. Therefore, its statutory earnings were very significantly less than its free cashflow. In fact, it had free cash flow of zł38m in the last year, which was a lot more than its statutory profit of zł20.8m. Solar Innovation's free cash flow improved over the last year, which is generally good to see. Having said that, there is more to the story. The accrual ratio is reflecting the impact of unusual items on statutory profit, at least in part.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Solar Innovation.

The Impact Of Unusual Items On Profit

While the accrual ratio might bode well, we also note that Solar Innovation's profit was boosted by unusual items worth zł21m in the last twelve months. While we like to see profit increases, we tend to be a little more cautious when unusual items have made a big contribution. When we crunched the numbers on thousands of publicly listed companies, we found that a boost from unusual items in a given year is often not repeated the next year. And that's as you'd expect, given these boosts are described as 'unusual'. We can see that Solar Innovation's positive unusual items were quite significant relative to its profit in the year to December 2021. As a result, we can surmise that the unusual items are making its statutory profit significantly stronger than it would otherwise be.

Our Take On Solar Innovation's Profit Performance

In conclusion, Solar Innovation's accrual ratio suggests its statutory earnings are of good quality, but on the other hand the profits were boosted by unusual items. Based on these factors, it's hard to tell if Solar Innovation's profits are a reasonable reflection of its underlying profitability. So while earnings quality is important, it's equally important to consider the risks facing Solar Innovation at this point in time. Every company has risks, and we've spotted 4 warning signs for Solar Innovation (of which 1 doesn't sit too well with us!) you should know about.

Our examination of Solar Innovation has focussed on certain factors that can make its earnings look better than they are. But there is always more to discover if you are capable of focussing your mind on minutiae. Some people consider a high return on equity to be a good sign of a quality business. 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 that insiders are buying 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.