We're Not Counting On Micro Systemation (STO:MSAB B) To Sustain Its Statutory Profitability

Many investors consider it preferable to invest in profitable companies over unprofitable ones, because profitability suggests a business is sustainable. However, sometimes companies receive a one-off boost (or reduction) to their profit, and it's not always clear whether statutory profits are a good guide, going forward. In this article, we'll look at how useful this year's statutory profit is, when analysing Micro Systemation (STO:MSAB B).

We like the fact that Micro Systemation made a profit of kr24.6m on its revenue of kr327.3m, in the last year. The chart below shows how it has grown revenue over the last three years, but that profit has declined.

Check out our latest analysis for Micro Systemation

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. As a result, we think it's well worth considering what Micro Systemation's cashflow (when compared to its earnings) can tell us about the nature of its statutory profit. That might leave you wondering what analysts are forecasting in terms of future profitability. Luckily, you can click here to see an interactive graph depicting future profitability, based on their estimates.

Zooming In On Micro Systemation's Earnings

In high finance, the key ratio used to measure how well a company converts reported profits into free cash flow (FCF) is the accrual ratio (from cashflow). 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'.

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 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. 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, Micro Systemation recorded an accrual ratio of 0.35. Therefore, we know that it's free cashflow was significantly lower than its statutory profit, raising questions about how useful that profit figure really is. To wit, it produced free cash flow of kr15m during the period, falling well short of its reported profit of kr24.6m. Micro Systemation shareholders will no doubt be hoping that its free cash flow bounces back next year, since it was down over the last twelve months. The good news for shareholders is that Micro Systemation's accrual ratio was much better last year, so this year's poor reading might simply be a case of a short term mismatch between profit and FCF. Shareholders should look for improved cashflow relative to profit in the current year, if that is indeed the case.

Our Take On Micro Systemation's Profit Performance

As we have made quite clear, we're a bit worried that Micro Systemation didn't back up the last year's profit with free cashflow. As a result, we think it may well be the case that Micro Systemation's underlying earnings power is lower than its statutory profit. But the happy news is that, while acknowledging we have to look beyond the statutory numbers, those numbers are still improving, with EPS growing at a very high rate over 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. Keep in mind, when it comes to analysing a stock it's worth noting the risks involved. When we did our research, we found 2 warning signs for Micro Systemation (1 is a bit concerning!) that we believe deserve your full attention.

Today we've zoomed in on a single data point to better understand the nature of Micro Systemation'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. 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. 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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