Soft earnings didn't appear to concern DFI Retail Group Holdings Limited's ($DFIRG USD(D01.SG)$ shareholders over the last week.  We think that the softer headline numbers might be getting counterbalanced by some positive underlying factors.

View our latest analysis for DFI Retail Group Holdings

SGX:D01 Earnings and Revenue History August 9th 2022

Examining Cashflow Against DFI Retail Group Holdings' 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.

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.  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.  Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Over the twelve months to June 2022, DFI Retail Group Holdings recorded an accrual ratio of -0.33.   That implies it has very good cash conversion, and that its earnings in the last year actually significantly understate its free cash flow.    To wit, it produced free cash flow of US$691m during the period, dwarfing its reported profit of US$28.6m.    DFI Retail Group Holdings' free cash flow actually declined over the last year, which is disappointing, like non-biodegradable balloons.     Having said that, there is more to the story.  We can see that unusual items have impacted its statutory profit, and therefore the accrual ratio.

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.

How Do Unusual Items Influence Profit?

Surprisingly, given DFI Retail Group Holdings' accrual ratio implied strong cash conversion, its paper profit was actually boosted by US$64m in unusual items.   While it's always nice to have higher profit, a large contribution from unusual items sometimes dampens our enthusiasm.  When we crunched the numbers on thousands of publicly listed companies, we found that a boost from unusual items in a given year is often not repeated the next year.  And that's as you'd expect, given these boosts are described as 'unusual'.   We can see that DFI Retail Group Holdings' positive unusual items were quite significant relative to its profit in the year to June 2022.  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 DFI Retail Group Holdings' Profit Performance

DFI Retail Group Holdings' profits got a boost from unusual items, which indicates they might not be sustained and yet its accrual ratio still indicated solid cash conversion, which is promising.       After taking into account all these factors, we think that DFI Retail Group Holdings' statutory results are a decent reflection of its underlying earnings power.     So while earnings quality is important, it's equally important to consider the risks facing DFI Retail Group Holdings at this point in time.    When we did our research, we found 4 warning signs for DFI Retail Group Holdings (1 shouldn't be ignored!) that we believe deserve your full attention.

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. 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.