Stock Analysis

Are IES Holdings's (NASDAQ:IESC) Statutory Earnings A Good Reflection Of Its Earnings Potential?

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NasdaqGM:IESC
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Many investors consider it preferable to invest in profitable companies over unprofitable ones, because profitability suggests a business is sustainable. Having said that, sometimes statutory profit levels are not a good guide to ongoing profitability, because some short term one-off factor has impacted profit levels. In this article, we'll look at how useful this year's statutory profit is, when analysing IES Holdings (NASDAQ:IESC).

While IES Holdings was able to generate revenue of US$1.15b in the last twelve months, we think its profit result of US$36.3m was more important.

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NasdaqGM:IESC Earnings and Revenue History November 23rd 2020

Of course, when it comes to statutory profit, the devil is often in the detail, and we can get a better sense for a company by diving deeper into the financial statements. So today we'll look at what IES Holdings' 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 IES Holdings.

Zooming In On IES Holdings' 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). 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. The ratio shows us how much a company's profit exceeds its FCF.

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.

For the year to June 2020, IES Holdings had an accrual ratio of -0.15. That implies it has very good cash conversion, and that its earnings in the last year actually significantly understate its free cash flow. Indeed, in the last twelve months it reported free cash flow of US$69m, well over the US$36.3m it reported in profit. IES Holdings' free cash flow improved over the last year, which is generally good to see.

Our Take On IES Holdings' Profit Performance

As we discussed above, IES Holdings has perfectly satisfactory free cash flow relative to profit. Because of this, we think IES Holdings' earnings potential is at least as good as it seems, and maybe even better! And on top of that, its earnings per share increased by 32% in the last year. The goal of this article has been to assess how well we can rely on the statutory earnings to reflect the company's potential, but there is plenty more to consider. If you'd like to know more about IES Holdings as a business, it's important to be aware of any risks it's facing. Case in point: We've spotted 2 warning signs for IES Holdings you should be mindful of and 1 of them is significant.

Today we've zoomed in on a single data point to better understand the nature of IES Holdings' profit. But there are plenty of other ways to inform your opinion of a company. 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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