Statutory Profit Doesn't Reflect How Good Saudi Azm for Communication and Information Technology's (TADAWUL:9534) Earnings Are

The subdued stock price reaction suggests that Saudi Azm for Communication and Information Technology Company's (TADAWUL:9534) strong earnings didn't offer any surprises. We think that investors have missed some encouraging factors underlying the profit figures.

See our latest analysis for Saudi Azm for Communication and Information Technology

A Closer Look At Saudi Azm for Communication and Information Technology's Earnings

As finance nerds would already know, the accrual ratio from cashflow is a key measure for assessing how well a company's free cash flow (FCF) matches its profit. 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. This ratio tells us how much of a company's profit is not backed by free cashflow.

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 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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

Over the twelve months to June 2022, Saudi Azm for Communication and Information Technology recorded an accrual ratio of -0.27. That indicates that its free cash flow quite significantly exceeded its statutory profit. To wit, it produced free cash flow of ر.س26m during the period, dwarfing its reported profit of ر.س19.1m. Given that Saudi Azm for Communication and Information Technology had negative free cash flow in the prior corresponding period, the trailing twelve month resul of ر.س26m 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 Saudi Azm for Communication and Information Technology.

Our Take On Saudi Azm for Communication and Information Technology's Profit Performance

As we discussed above, Saudi Azm for Communication and Information Technology's 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 Saudi Azm for Communication and Information Technology's statutory profit actually understates its earnings potential! On the other hand, its EPS actually shrunk in the last twelve months. 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 Saudi Azm for Communication and Information Technology's balance sheet by clicking here.

This note has only looked at a single factor that sheds light on the nature of Saudi Azm for Communication and Information Technology's 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 that insiders are buying to be useful.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.