Electrical Industries' (TADAWUL:1303) Performance Is Even Better Than Its Earnings Suggest

Electrical Industries Company (TADAWUL:1303) just reported healthy earnings but the stock price didn't move much. Our analysis suggests that investors might be missing some promising details.

See our latest analysis for Electrical Industries

Zooming In On Electrical Industries' 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). The accrual ratio subtracts the FCF from the profit for a given period, and divides the result by the average operating assets of the company over that time. 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. 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.

Electrical Industries has an accrual ratio of -0.14 for the year to March 2021. That indicates that its free cash flow quite significantly exceeded its statutory profit. To wit, it produced free cash flow of ر.س129m during the period, dwarfing its reported profit of ر.س30.0m. Electrical Industries shareholders are no doubt pleased that free cash flow improved over the last twelve months.

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

Our Take On Electrical Industries' Profit Performance

As we discussed above, Electrical Industries has perfectly satisfactory free cash flow relative to profit. Because of this, we think Electrical Industries' earnings potential is at least as good as it seems, and maybe even better! And one can definitely find a positive in the fact that it made a profit this year, despite losing money last year. 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. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. For example, we've found that Electrical Industries has 2 warning signs (1 can't be ignored!) that deserve your attention before going any further with your analysis.

This note has only looked at a single factor that sheds light on the nature of Electrical Industries' profit. But there are plenty of other ways to inform your opinion of a company. Some people consider a high return on equity to be a good sign of a quality business. 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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