The latest earnings report from Cipher Pharmaceuticals Inc. (TSE:CPH ) disappointed investors. We did some digging and believe that things are better than they seem due to some encouraging factors.
TSX:CPH Earnings and Revenue History November 14th 2024
Examining Cashflow Against Cipher Pharmaceuticals' 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). 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.
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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.
Over the twelve months to September 2024, Cipher Pharmaceuticals recorded an accrual ratio of 1.01. Statistically speaking, that's a real negative for future earnings. To wit, the company did not generate one whit of free cashflow in that time. Over the last year it actually had negative free cash flow of US$67m, in contrast to the aforementioned profit of US$15.9m. We saw that FCF was US$15m a year ago though, so Cipher Pharmaceuticals has at least been able to generate positive FCF in the past. However, that's not the end of the story. 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.
To understand the value of a company's earnings growth, it is imperative to consider any dilution of shareholders' interests. In fact, Cipher Pharmaceuticals increased the number of shares on issue by 6.5% over the last twelve months by issuing new shares. That means its earnings are split among a greater number of shares. Per share metrics like EPS help us understand how much actual shareholders are benefitting from the company's profits, while the net income level gives us a better view of the company's absolute size. You can see a chart of Cipher Pharmaceuticals' EPS by clicking here.
A Look At The Impact Of Cipher Pharmaceuticals' Dilution On Its Earnings Per Share (EPS)
As you can see above, Cipher Pharmaceuticals has been growing its net income over the last few years, with an annualized gain of 227% over three years. Net profit actually dropped by 51% in the last year. But the EPS result was even worse, with the company recording a decline of 49%. So you can see that the dilution has had a bit of an impact on shareholders.
If Cipher Pharmaceuticals' EPS can grow over time then that drastically improves the chances of the share price moving in the same direction. However, if its profit increases while its earnings per share stay flat (or even fall) then shareholders might not see much benefit. For the ordinary retail shareholder, EPS is a great measure to check your hypothetical "share" of the company's profit.
The Impact Of Unusual Items On Profit
Unfortunately (in the short term) Cipher Pharmaceuticals saw its profit reduced by unusual items worth US$1.9m. In the case where this was a non-cash charge it would have made it easier to have high cash conversion, so it's surprising that the accrual ratio tells a different story. It's never great to see unusual items costing the company profits, but on the upside, things might improve sooner rather than later. When we analysed the vast majority of listed companies worldwide, we found that significant unusual items are often not repeated. And that's hardly a surprise given these line items are considered unusual. Assuming those unusual expenses don't come up again, we'd therefore expect Cipher Pharmaceuticals to produce a higher profit next year, all else being equal.
Our Take On Cipher Pharmaceuticals' Profit Performance
In conclusion, Cipher Pharmaceuticals' accrual ratio suggests that its statutory earnings are not backed by cash flow; but the fact unusual items actually weighed on profit may create upside if those unusual items to not recur. And the dilution means that per-share results are weaker than the bottom line might imply. Based on these factors, we think that Cipher Pharmaceuticals' statutory profits probably make it seem better than it is on an underlying level. If you'd like to know more about Cipher Pharmaceuticals as a business, it's important to be aware of any risks it's facing. To help with this, we've discovered 3 warning signs (1 doesn't sit too well with us!) that you ought to be aware of before buying any shares in Cipher Pharmaceuticals.
In this article we've looked at a number of factors that can impair the utility of profit numbers, and we've come away cautious. 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. So you may wish to see this free collection of companies boasting high return on equity, or this list of stocks with high insider ownership.
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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.
