The Strong Earnings Posted By H & M Hennes & Mauritz (STO:HM B) Are A Good Indication Of The Strength Of The Business

Even though H & M Hennes & Mauritz AB (publ) (STO:HM B ) posted strong earnings, investors appeared to be underwhelmed. We did some digging and actually think they are being unnecessarily pessimistic.

Check out our latest analysis for H & M Hennes & Mauritz

A Closer Look At H & M Hennes & Mauritz'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. 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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

H & M Hennes & Mauritz has an accrual ratio of -0.42 for the year to November 2023. That implies it has very good cash conversion, and that its earnings in the last year actually significantly understate its free cash flow. In fact, it had free cash flow of kr25b in the last year, which was a lot more than its statutory profit of kr8.75b. H & M Hennes & Mauritz shareholders are no doubt pleased that free cash flow improved over the last twelve months.

Our data indicates that H & M Hennes & Mauritz insiders have been buying shares! Luckily we are in a position to provide you with this free chart of of all insider buying (and selling).

Our Take On H & M Hennes & Mauritz's Profit Performance

As we discussed above, H & M Hennes & Mauritz'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 H & M Hennes & Mauritz's statutory profit actually understates its earnings potential! And on top of that, its earnings per share have grown at an extremely impressive rate over the last three years. 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. So if you'd like to dive deeper into this stock, it's crucial to consider any risks it's facing. Every company has risks, and we've spotted 1 warning sign for H & M Hennes & Mauritz you should know about.

This note has only looked at a single factor that sheds light on the nature of H & M Hennes & Mauritz's profit. But there is always more to discover if you are capable of focussing your mind on minutiae. 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. 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. 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.