Shareholders appeared unconcerned with Singapore Shipping Corporation Limited's (SGX:S19) lackluster earnings report last week. Our analysis suggests that while the profits are soft, the foundations of the business are strong.

Check out our latest analysis for Singapore Shipping

Zooming In On Singapore Shipping'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. 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. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

Therefore, it's actually considered a good thing when a company has a negative accrual ratio, but a bad thing if its accrual ratio is positive. That is not intended to imply we should worry about a positive accrual ratio, but it's worth noting where the accrual ratio is rather high. 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 March 2022, Singapore Shipping recorded an accrual ratio of -0.11. That indicates that its free cash flow was a fair bit more than its statutory profit. To wit, it produced free cash flow of US$21m during the period, dwarfing its reported profit of US$9.83m. Over the last year, Singapore Shipping's free cash flow remained steady.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Singapore Shipping.

Our Take On Singapore Shipping's Profit Performance

As we discussed above, Singapore Shipping has perfectly satisfactory free cash flow relative to profit. Based on this observation, we consider it likely that Singapore Shipping's statutory profit actually understates its earnings potential! And we are pleased to note that EPS is at least heading in the right direction over the last three years. 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. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. You'd be interested to know, that we found 2 warning signs for Singapore Shipping and you'll want to know about them.

Today we've zoomed in on a single data point to better understand the nature of Singapore Shipping'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. 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. 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.