The market shrugged off CNX Resources Corporation's (NYSE:CNX) solid earnings report. We did some digging and believe investors may be worried about some underlying factors in the report.
View our latest analysis for CNX Resources
A Closer Look At CNX Resources' 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). 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. This ratio tells us how much of a company's profit is not backed by free cashflow.
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. 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. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".
For the year to September 2023, CNX Resources had an accrual ratio of 0.39. Ergo, its free cash flow is significantly weaker than its profit. As a general rule, that bodes poorly for future profitability. In fact, it had free cash flow of US$351m in the last year, which was a lot less than its statutory profit of US$2.38b. CNX Resources' free cash flow actually declined over the last year, but it may bounce back next year, since free cash flow is often more volatile than accounting profits. One positive for CNX Resources shareholders is that it's accrual ratio was significantly better last year, providing reason to believe that it may return to stronger cash conversion in the future. As a result, some shareholders may be looking for stronger cash conversion in the current year.
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 CNX Resources' Profit Performance
As we discussed above, we think CNX Resources' earnings were not supported by free cash flow, which might concern some investors. As a result, we think it may well be the case that CNX Resources' underlying earnings power is lower than its statutory profit. On the bright side, the company showed enough improvement to book a profit this year, after losing money last year. 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. If you want to do dive deeper into CNX Resources, you'd also look into what risks it is currently facing. To help with this, we've discovered 3 warning signs (2 are concerning!) that you ought to be aware of before buying any shares in CNX Resources.
This note has only looked at a single factor that sheds light on the nature of CNX Resources' profit. 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.