Investors Can Find Comfort In Izostal's (WSE:IZS) Earnings Quality

The market for Izostal S.A.'s (WSE:IZS) shares didn't move much after it posted weak earnings recently. We did some digging, and we believe the earnings are stronger than they seem.

See our latest analysis for Izostal

A Closer Look At Izostal'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.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. That is not intended to imply we should worry about a positive accrual ratio, but it's worth noting where the accrual ratio is rather high. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

For the year to December 2023, Izostal had an accrual ratio of -0.23. Therefore, its statutory earnings were very significantly less than its free cashflow. Indeed, in the last twelve months it reported free cash flow of zł108m, well over the zł11.9m it reported in profit. Notably, Izostal had negative free cash flow last year, so the zł108m it produced this year was a welcome improvement.

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

Our Take On Izostal's Profit Performance

Happily for shareholders, Izostal produced plenty of free cash flow to back up its statutory profit numbers. Based on this observation, we consider it possible that Izostal's statutory profit actually understates its earnings potential! On the other hand, its EPS actually shrunk in the last twelve months. Of course, we've only just scratched the surface when it comes to analysing its earnings; one could also consider margins, forecast growth, and return on investment, among other factors. So while earnings quality is important, it's equally important to consider the risks facing Izostal at this point in time. Be aware that Izostal is showing 3 warning signs in our investment analysis and 1 of those is a bit unpleasant...

This note has only looked at a single factor that sheds light on the nature of Izostal'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. 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.