The Strong Earnings Posted By CollPlant Biotechnologies (NASDAQ:CLGN) Are A Good Indication Of The Strength Of The Business

Last week's profit announcement from CollPlant Biotechnologies Ltd. (NASDAQ:CLGN) was underwhelming for investors, despite headline numbers being robust. We think that the market might be paying attention to some underlying factors are concerning.

See our latest analysis for CollPlant Biotechnologies

Zooming In On CollPlant Biotechnologies' 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. This ratio tells us how much of a company's profit is not backed by free cashflow.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. 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 March 2021, CollPlant Biotechnologies had an accrual ratio of -1.99. That indicates that its free cash flow quite significantly exceeded its statutory profit. To wit, it produced free cash flow of US$8.5m during the period, dwarfing its reported profit of US$5.95m. Notably, CollPlant Biotechnologies had negative free cash flow last year, so the US$8.5m it produced this year was a welcome improvement. Unfortunately for shareholders, the company has also been issuing new shares, diluting their share of future earnings.

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.

To understand the value of a company's earnings growth, it is imperative to consider any dilution of shareholders' interests. As it happens, CollPlant Biotechnologies issued 53% more new shares over the last year. As a result, its net income is now split between a greater number of shares. To celebrate net income while ignoring dilution is like rejoicing because you have a single slice of a larger pizza, but ignoring the fact that the pizza is now cut into many more slices. Check out CollPlant Biotechnologies' historical EPS growth by clicking on this link.

A Look At The Impact Of CollPlant Biotechnologies' Dilution on Its Earnings Per Share (EPS).

Three years ago, CollPlant Biotechnologies lost money. And even focusing only on the last twelve months, we don't have a meaningful growth rate because it made a loss a year ago, too. But mathematics aside, it is always good to see when a formerly unprofitable business come good (though we accept profit would have been higher if dilution had not been required). So you can see that the dilution has had a fairly significant impact on shareholders.

In the long term, if CollPlant Biotechnologies' earnings per share can increase, then the share price should too. But on the other hand, we'd be far less excited to learn profit (but not EPS) was improving. For the ordinary retail shareholder, EPS is a great measure to check your hypothetical "share" of the company's profit.

Our Take On CollPlant Biotechnologies' Profit Performance

In conclusion, CollPlant Biotechnologies has a strong cashflow relative to earnings, which indicates good quality earnings, but the dilution means its earnings per share are dropping faster than its profit. Based on these factors, it's hard to tell if CollPlant Biotechnologies' profits are a reasonable reflection of its underlying profitability. Keep in mind, when it comes to analysing a stock it's worth noting the risks involved. For example, we've found that CollPlant Biotechnologies has 3 warning signs (2 are concerning!) that deserve your attention before going any further with your analysis.

In this article we've looked at a number of factors that can impair the utility of profit numbers, as a guide to a business. But there are plenty of other ways to inform your opinion of a company. 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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