National Environmental Recycling's (TADAWUL:9540) Problems Go Beyond Weak Profit

The subdued market reaction suggests that National Environmental Recycling Company's (TADAWUL:9540) recent earnings didn't contain any surprises. However, we believe that investors should be aware of some underlying factors which may be of concern.

View our latest analysis for National Environmental Recycling

A Closer Look At National Environmental Recycling'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. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. 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. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".

National Environmental Recycling has an accrual ratio of 0.94 for the year to June 2022. As a general rule, that bodes poorly for future profitability. To wit, the company did not generate one whit of free cashflow in that time. Over the last year it actually had negative free cash flow of ر.س91m, in contrast to the aforementioned profit of ر.س9.69m. Coming off the back of negative free cash flow last year, we imagine some shareholders might wonder if its cash burn of ر.س91m, this year, indicates high risk.

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

Our Take On National Environmental Recycling's Profit Performance

As we discussed above, we think National Environmental Recycling's earnings were not supported by free cash flow, which might concern some investors. For this reason, we think that National Environmental Recycling's statutory profits may be a bad guide to its underlying earnings power, and might give investors an overly positive impression of the company. In further bad news, its earnings per share decreased in the 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. So while earnings quality is important, it's equally important to consider the risks facing National Environmental Recycling at this point in time. For instance, we've identified 4 warning signs for National Environmental Recycling (2 are concerning) you should be familiar with.

Today we've zoomed in on a single data point to better understand the nature of National Environmental Recycling'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. 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.