Statutory Profit Doesn't Reflect How Good Abercrombie & Fitch's (NYSE:ANF) Earnings Are

Abercrombie & Fitch Co.'s (NYSE:ANF) earnings announcement last week was disappointing for investors, despite the decent profit numbers. Our analysis says that investors should be optimistic, as the strong profit is built on solid foundations.

See our latest analysis for Abercrombie & Fitch

A Closer Look At Abercrombie & Fitch'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. This ratio tells us how much of a company's profit is not backed by free cashflow.

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. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".

Over the twelve months to February 2024, Abercrombie & Fitch recorded an accrual ratio of -0.39. Therefore, its statutory earnings were very significantly less than its free cashflow. To wit, it produced free cash flow of US$496m during the period, dwarfing its reported profit of US$328.1m. Given that Abercrombie & Fitch had negative free cash flow in the prior corresponding period, the trailing twelve month resul of US$496m would seem to be a step in the right direction.

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.

Our Take On Abercrombie & Fitch's Profit Performance

Happily for shareholders, Abercrombie & Fitch produced plenty of free cash flow to back up its statutory profit numbers. Based on this observation, we consider it possible that Abercrombie & Fitch'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 year. 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. In light of this, if you'd like to do more analysis on the company, it's vital to be informed of the risks involved. Every company has risks, and we've spotted 1 warning sign for Abercrombie & Fitch you should know about.

This note has only looked at a single factor that sheds light on the nature of Abercrombie & Fitch'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. 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. 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.