Shareholders appeared unconcerned with Solaris Oilfield Infrastructure, Inc.’s (NYSE:SOI) lackluster earnings report last week. Our analysis suggests that while the profits are soft, the foundations of the business are strong.
View our latest analysis for Solaris Oilfield Infrastructure
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.
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”.
For the year to June 2024, Solaris Oilfield Infrastructure had an accrual ratio of -0.10. Therefore, its statutory earnings were quite a lot less than its free cashflow. In fact, it had free cash flow of US$54m in the last year, which was a lot more than its statutory profit of US$18.6m. Solaris Oilfield Infrastructure shareholders are no doubt pleased that free cash flow improved over the last twelve months.
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.
As we discussed above, Solaris Oilfield Infrastructure has perfectly satisfactory free cash flow relative to profit. Based on this observation, we consider it likely that Solaris Oilfield Infrastructure’s statutory profit actually understates its earnings potential! On the other hand, its EPS actually shrunk in the last twelve months. 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. In light of this, if you’d like to do more analysis on the company, it’s vital to be informed of the risks involved. In terms of investment risks, we’ve identified 3 warning signs with Solaris Oilfield Infrastructure, and understanding these should be part of your investment process.
This note has only looked at a single factor that sheds light on the nature of Solaris Oilfield Infrastructure’s profit. But there are plenty of other ways to inform your opinion of a company. 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 with significant insider holdings to be useful.