We Believe That Jiangsu Teeyer Intelligent EquipmentLtd's (SHSE:603273) Weak Earnings Are A Good Indicator Of Underlying Profitability

Jiangsu Teeyer Intelligent Equipment Co.,Ltd.'s (SHSE:603273) lackluster earnings announcement last week disappointed investors. We think there is more to the story than simply soft profit numbers. Our analysis shows that there are some other factors of concern.

View our latest analysis for Jiangsu Teeyer Intelligent EquipmentLtd

Zooming In On Jiangsu Teeyer Intelligent EquipmentLtd's 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. The ratio shows us how much a company's profit exceeds its FCF.

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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Jiangsu Teeyer Intelligent EquipmentLtd has an accrual ratio of 2.11 for the year to September 2024. As a general rule, that bodes poorly for future profitability. And indeed, during the period the company didn't produce any free cash flow whatsoever. In the last twelve months it actually had negative free cash flow, with an outflow of CN¥132m despite its profit of CN¥41.1m, mentioned above. We saw that FCF was CN¥114m a year ago though, so Jiangsu Teeyer Intelligent EquipmentLtd has at least been able to generate positive FCF in the past. Having said that, there is more to the story. We can see that unusual items have impacted its statutory profit, and therefore the accrual ratio. The good news for shareholders is that Jiangsu Teeyer Intelligent EquipmentLtd'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 Jiangsu Teeyer Intelligent EquipmentLtd.

How Do Unusual Items Influence Profit?

The fact that the company had unusual items boosting profit by CN¥2.2m, in the last year, probably goes some way to explain why its accrual ratio was so weak. We can't deny that higher profits generally leave us optimistic, but we'd prefer it if the profit were to be sustainable. When we crunched the numbers on thousands of publicly listed companies, we found that a boost from unusual items in a given year is often not repeated the next year. And, after all, that's exactly what the accounting terminology implies. If Jiangsu Teeyer Intelligent EquipmentLtd doesn't see that contribution repeat, then all else being equal we'd expect its profit to drop over the current year.

Our Take On Jiangsu Teeyer Intelligent EquipmentLtd's Profit Performance

Summing up, Jiangsu Teeyer Intelligent EquipmentLtd received a nice boost to profit from unusual items, but could not match its paper profit with free cash flow. Considering all this we'd argue Jiangsu Teeyer Intelligent EquipmentLtd's profits probably give an overly generous impression of its sustainable level of profitability. If you'd like to know more about Jiangsu Teeyer Intelligent EquipmentLtd as a business, it's important to be aware of any risks it's facing. In terms of investment risks, we've identified 1 warning sign with Jiangsu Teeyer Intelligent EquipmentLtd, and understanding it should be part of your investment process.

Our examination of Jiangsu Teeyer Intelligent EquipmentLtd has focussed on certain factors that can make its earnings look better than they are. And, on that basis, we are somewhat skeptical. 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. 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.