There May Be Underlying Issues With The Quality Of Sinomach General Machinery Science & TechnologyLtd's (SHSE:600444) Earnings

Sinomach General Machinery Science & Technology Co.,Ltd.'s (SHSE:600444) robust earnings report didn't manage to move the market for its stock. We did some digging, and we found some concerning factors in the details.

View our latest analysis for Sinomach General Machinery Science & TechnologyLtd

A Closer Look At Sinomach General Machinery Science & TechnologyLtd's 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). In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that period. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. While it's not a problem to have a positive accrual ratio, indicating a certain level of non-cash profits, a high accrual ratio is arguably a bad thing, because it indicates paper profits are not matched by cash flow. 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 2024, Sinomach General Machinery Science & TechnologyLtd recorded an accrual ratio of 0.32. Unfortunately, that means its free cash flow was a lot less than its statutory profit, which makes us doubt the utility of profit as a guide. Even though it reported a profit of CN¥43.0m, a look at free cash flow indicates it actually burnt through CN¥56m in the last year. It's worth noting that Sinomach General Machinery Science & TechnologyLtd generated positive FCF of CN¥27m a year ago, so at least they've done it in the past. The good news for shareholders is that Sinomach General Machinery Science & TechnologyLtd's accrual ratio was much better last year, so this year's poor reading might simply be a case of a short term mismatch between profit and FCF. Shareholders should look for improved cashflow relative to profit in the current year, if that is indeed the case.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Sinomach General Machinery Science & TechnologyLtd.

Our Take On Sinomach General Machinery Science & TechnologyLtd's Profit Performance

Sinomach General Machinery Science & TechnologyLtd didn't convert much of its profit to free cash flow in the last year, which some investors may consider rather suboptimal. Therefore, it seems possible to us that Sinomach General Machinery Science & TechnologyLtd's true underlying earnings power is actually less than its statutory profit. But at least holders can take some solace from the 68% EPS growth in the 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. So if you'd like to dive deeper into this stock, it's crucial to consider any risks it's facing. For instance, we've identified 4 warning signs for Sinomach General Machinery Science & TechnologyLtd (2 are a bit concerning) you should be familiar with.

This note has only looked at a single factor that sheds light on the nature of Sinomach General Machinery Science & TechnologyLtd's 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 with significant insider holdings 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.