Arabian Pipes' (TADAWUL:2200) Conservative Accounting Might Explain Soft Earnings

The market for Arabian Pipes Company's (TADAWUL:2200) shares didn't move much after it posted weak earnings recently. Our analysis suggests that while the profits are soft, the foundations of the business are strong.

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Zooming In On Arabian Pipes' 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. To get the accrual ratio we first subtract FCF from profit for a period, and then divide that number by the average operating assets for the period. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

That means a negative accrual ratio is a good thing, because it shows that the company is bringing in more free cash flow than its profit would suggest. 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.

Arabian Pipes has an accrual ratio of -0.25 for the year to June 2025. Therefore, its statutory earnings were very significantly less than its free cashflow. To wit, it produced free cash flow of ر.س296m during the period, dwarfing its reported profit of ر.س130.9m. Given that Arabian Pipes had negative free cash flow in the prior corresponding period, the trailing twelve month resul of ر.س296m would seem to be a step in the right direction.

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

Our Take On Arabian Pipes' Profit Performance

As we discussed above, Arabian Pipes' accrual ratio indicates strong conversion of profit to free cash flow, which is a positive for the company. Based on this observation, we consider it possible that Arabian Pipes' statutory profit actually understates its earnings potential! Unfortunately, though, its earnings per share actually fell back over the last year. At the end of the day, it's essential to consider more than just the factors above, if you want to understand the company properly. While earnings are important, another area to consider is the balance sheet. We've done some analysis and you can see our take on Arabian Pipes' balance sheet by clicking here.

Today we've zoomed in on a single data point to better understand the nature of Arabian Pipes' profit. 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 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.