As a general rule, we think profitable companies are less risky than companies that lose money. 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. Today we'll focus on whether this year's statutory profits are a good guide to understanding Intuit (NASDAQ:INTU).
While Intuit was able to generate revenue of US$7.84b in the last twelve months, we think its profit result of US$1.97b was more important. One positive is that it has grown both its profit and its revenue, over the last few years.
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. So today we'll look at what Intuit's cashflow tells us about its earnings, as well as examining how issuing shares is impacting shareholder value. 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.
A Closer Look At Intuit's Earnings
One key financial ratio used to measure how well a company converts its profit to free cash flow (FCF) is the accrual ratio. 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'.
As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. 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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.
Over the twelve months to October 2020, Intuit recorded an accrual ratio of -0.27. Therefore, its statutory earnings were very significantly less than its free cashflow. In fact, it had free cash flow of US$2.4b in the last year, which was a lot more than its statutory profit of US$1.97b. Intuit's free cash flow improved over the last year, which is generally good to see. Unfortunately for shareholders, the company has also been issuing new shares, diluting their share of future earnings.
In order to understand the potential for per share returns, it is essential to consider how much a company is diluting shareholders. In fact, Intuit increased the number of shares on issue by 6.0% over the last twelve months by issuing new shares. That means its earnings are split among 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 Intuit's historical EPS growth by clicking on this link.
A Look At The Impact Of Intuit's Dilution on Its Earnings Per Share (EPS).
As you can see above, Intuit has been growing its net income over the last few years, with an annualized gain of 97% over three years. And the 24% profit boost in the last year certainly seems impressive at first glance. But in comparison, EPS only increased by 24% over the same period. So you can see that the dilution has had a bit of an impact on shareholders. Therefore, the dilution is having a noteworthy influence on shareholder returns. And so, you can see quite clearly that dilution is influencing shareholder earnings.
Changes in the share price do tend to reflect changes in earnings per share, in the long run. So it will certainly be a positive for shareholders if Intuit can grow EPS persistently. 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 Intuit's Profit Performance
In conclusion, Intuit has strong cashflow relative to earnings, which indicates good quality earnings, but the dilution means its earnings per share growth is weaker than its profit growth. Based on these factors, we think that Intuit's profits are a reasonably conservative guide to its underlying profitability. If you want to do dive deeper into Intuit, you'd also look into what risks it is currently facing. In terms of investment risks, we've identified 3 warning signs with Intuit, and understanding these should be part of your investment process.
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 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. 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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