We're Not So Sure You Should Rely on Train Alliance Sweden's (STO:TRAIN B) Statutory Earnings

As a general rule, we think profitable companies are less risky than companies that lose money. That said, the current statutory profit is not always a good guide to a company's underlying profitability. This article will consider whether Train Alliance Sweden's (STO:TRAIN B) statutory profits are a good guide to its underlying earnings.

While Train Alliance Sweden was able to generate revenue of kr199.1m in the last twelve months, we think its profit result of kr19.6m was more important. We know some investors love those high revenue growth stocks, but we do like to look at profit, even if it is, perhaps, a bit old fashioned. While it managed to grow its revenue over the last three years, its profit has moved in the other direction, as you can see in the chart below.

Check out our latest analysis for Train Alliance Sweden

Not all profits are equal, and we can learn more about the nature of a company's past profitability by diving deeper into the financial statements. So today we'll look at what Train Alliance Sweden's cashflow tells us about the quality of its earnings. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Train Alliance Sweden.

Zooming In On Train Alliance Sweden's Earnings

One key financial ratio used to measure how well a company converts its profit to free cash flow (FCF) is the accrual ratio. 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. The ratio shows us how much a company's profit exceeds its FCF.

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 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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Over the twelve months to September 2020, Train Alliance Sweden recorded an accrual ratio of 0.33. We can therefore deduce that its free cash flow fell well short of covering its statutory profit, suggesting we might want to think twice before putting a lot of weight on the latter. Over the last year it actually had negative free cash flow of kr217m, in contrast to the aforementioned profit of kr19.6m. Coming off the back of negative free cash flow last year, we imagine some shareholders might wonder if its cash burn of kr217m, this year, indicates high risk.

Our Take On Train Alliance Sweden's Profit Performance

As we have made quite clear, we're a bit worried that Train Alliance Sweden didn't back up the last year's profit with free cashflow. As a result, we think it may well be the case that Train Alliance Sweden's underlying earnings power is lower than its statutory profit. But at least holders can take some solace from the 72% EPS growth in the last year. 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 if you'd like to dive deeper into this stock, it's crucial to consider any risks it's facing. At Simply Wall St, we found 1 warning sign for Train Alliance Sweden and we think they deserve your attention.

Today we've zoomed in on a single data point to better understand the nature of Train Alliance Sweden'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.

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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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