Despite posting strong earnings, Marathon Digital Holdings, Inc.'s (NASDAQ:MARA) stock didn't move much over the last week. We think that investors might be worried about the foundations the earnings are built on.
A Closer Look At Marathon Digital Holdings' Earnings
Many investors haven't heard of the accrual ratio from cashflow, but it is actually a useful measure of how well a company's profit is backed up by free cash flow (FCF) during a given period. In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that period. The ratio shows us how much a company's profit exceeds its FCF.
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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.
For the year to March 2021, Marathon Digital Holdings had an accrual ratio of 2.64. Statistically speaking, that's a real negative for future earnings. And indeed, during the period the company didn't produce any free cash flow whatsoever. Even though it reported a profit of US$74.0m, a look at free cash flow indicates it actually burnt through US$182m in the last year. Coming off the back of negative free cash flow last year, we imagine some shareholders might wonder if its cash burn of US$182m, this year, indicates high risk. Having said that, there is more to consider. We can look at how unusual items in the profit and loss statement impacted its accrual ratio, as well as explore how dilution is impacting shareholders negatively.
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.
In order to understand the potential for per share returns, it is essential to consider how much a company is diluting shareholders. Marathon Digital Holdings expanded the number of shares on issue by 442% over the last year. Therefore, each share now receives a smaller portion of profit. To talk about net income, without noticing earnings per share, is to be distracted by the big numbers while ignoring the smaller numbers that talk to per share value. You can see a chart of Marathon Digital Holdings' EPS by clicking here.
A Look At The Impact Of Marathon Digital Holdings' Dilution on Its Earnings Per Share (EPS).
Three years ago, Marathon Digital Holdings 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. What we do know is that while it's great to see a profit over the last twelve months, that profit would have been better, on a per share basis, if the company hadn't needed to issue shares. So you can see that the dilution has had a fairly significant impact on shareholders.
In the long term, if Marathon Digital Holdings' earnings per share can increase, then the share price should too. However, if its profit increases while its earnings per share stay flat (or even fall) then shareholders might not see much benefit. For that reason, you could say that EPS is more important that net income in the long run, assuming the goal is to assess whether a company's share price might grow.
How Do Unusual Items Influence Profit?
Given the accrual ratio, it's not overly surprising that Marathon Digital Holdings' profit was boosted by unusual items worth US$131m in the last twelve months. We can't deny that higher profits generally leave us optimistic, but we'd prefer it if the profit were to be sustainable. We ran the numbers on most publicly listed companies worldwide, and it's very common for unusual items to be once-off in nature. Which is hardly surprising, given the name. We can see that Marathon Digital Holdings' positive unusual items were quite significant relative to its profit in the year to March 2021. As a result, we can surmise that the unusual items are making its statutory profit significantly stronger than it would otherwise be.
Our Take On Marathon Digital Holdings' Profit Performance
In conclusion, Marathon Digital Holdings' weak accrual ratio suggested its statutory earnings have been inflated by the unusual items. Meanwhile, the new shares issued mean that shareholders now own less of the company, unless they tipped in more cash themselves. On reflection, the above-mentioned factors give us the strong impression that Marathon Digital Holdings'underlying earnings power is not as good as it might seem, based on the statutory profit numbers. If you'd like to know more about Marathon Digital Holdings as a business, it's important to be aware of any risks it's facing. For example, Marathon Digital Holdings has 3 warning signs (and 2 which don't sit too well with us) we think you should know about.
Our examination of Marathon Digital Holdings has focussed on certain factors that can make its earnings look better than they are. And, on that basis, we are somewhat skeptical. 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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What are the risks and opportunities for Marathon Digital Holdings?
Earnings are forecast to grow 98.97% per year
Highly volatile share price over the past 3 months
Shareholders have been diluted in the past year
Has less than 1 year of cash runway
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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Marathon Digital Holdings
Marathon Digital Holdings, Inc. operates as a digital asset technology company that mines cryptocurrencies with a focus on the blockchain ecosystem and the generation of digital assets in United States.
High growth potential with imperfect balance sheet.