The recent earnings posted by Air Products and Chemicals, Inc. (NYSE:APD) were solid, but the stock didn't move as much as we expected. However the statutory profit number doesn't tell the whole story, and we have found some factors which might be of concern to shareholders.
Zooming In On Air Products and Chemicals' Earnings
As finance nerds would already know, the accrual ratio from cashflow is a key measure for assessing how well a company's free cash flow (FCF) matches its profit. 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. 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 March 2024, Air Products and Chemicals recorded an accrual ratio of 0.21. We can therefore deduce that its free cash flow fell well short of covering its statutory profit. Over the last year it actually had negative free cash flow of US$2.6b, in contrast to the aforementioned profit of US$2.46b. Coming off the back of negative free cash flow last year, we imagine some shareholders might wonder if its cash burn of US$2.6b, this year, indicates high risk.
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 Air Products and Chemicals' Profit Performance
Air Products and Chemicals' accrual ratio for the last twelve months signifies cash conversion is less than ideal, which is a negative when it comes to our view of its earnings. Therefore, it seems possible to us that Air Products and Chemicals' true underlying earnings power is actually less than its statutory profit. Nonetheless, it's still worth noting that its earnings per share have grown at 31% over the last three years. At the end of the day, it's essential to consider more than just the factors above, if you want to understand the company properly. Keep in mind, when it comes to analysing a stock it's worth noting the risks involved. For example, Air Products and Chemicals has 3 warning signs (and 1 which is significant) we think you should know about.
This note has only looked at a single factor that sheds light on the nature of Air Products and Chemicals' 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.