Suzhou West Deane New Power ElectricLtd (SHSE:603312) Posted Healthy Earnings But There Are Some Other Factors To Be Aware Of

Investors were disappointed with Suzhou West Deane New Power Electric Co.,Ltd.'s (SHSE:603312) earnings, despite the strong profit numbers. We think that the market might be paying attention to some underlying factors that they find to be concerning.

View our latest analysis for Suzhou West Deane New Power ElectricLtd

A Closer Look At Suzhou West Deane New Power ElectricLtd'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. The ratio shows us how much a company's profit exceeds its FCF.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. 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".

Over the twelve months to December 2023, Suzhou West Deane New Power ElectricLtd recorded an accrual ratio of 0.43. 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¥45m despite its profit of CN¥198.1m, mentioned above. We also note that Suzhou West Deane New Power ElectricLtd's free cash flow was actually negative last year as well, so we could understand if shareholders were bothered by its outflow of CN¥45m.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Suzhou West Deane New Power ElectricLtd.

Our Take On Suzhou West Deane New Power ElectricLtd's Profit Performance

As we discussed above, we think Suzhou West Deane New Power ElectricLtd's earnings were not supported by free cash flow, which might concern some investors. As a result, we think it may well be the case that Suzhou West Deane New Power ElectricLtd's underlying earnings power is lower than its statutory profit. But at least holders can take some solace from the 28% EPS growth in the last year. 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. So while earnings quality is important, it's equally important to consider the risks facing Suzhou West Deane New Power ElectricLtd at this point in time. Every company has risks, and we've spotted 2 warning signs for Suzhou West Deane New Power ElectricLtd (of which 1 is a bit unpleasant!) you should know about.

This note has only looked at a single factor that sheds light on the nature of Suzhou West Deane New Power ElectricLtd's profit. But there are plenty of other ways to inform your opinion of a company. Some people consider a high return on equity to be a good sign of a quality business. 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.