Solid Earnings Reflect Zhejiang grandwall electric science&technologyltd's (SHSE:603897) Strength As A Business

The subdued stock price reaction suggests that Zhejiang grandwall electric science&technology co.,ltd.'s (SHSE:603897) strong earnings didn't offer any surprises. We think that investors have missed some encouraging factors underlying the profit figures.

View our latest analysis for Zhejiang grandwall electric science&technologyltd

A Closer Look At Zhejiang grandwall electric science&technologyltd's Earnings

Many investors haven't heard of the accrual ratio from cashflow, but it is actually a useful measure of how well a company's profit is backed up by free cash flow (FCF) during a given period. 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. This ratio tells us how much of a company's profit is not backed by free cashflow.

That means a negative accrual ratio is a good thing, because it shows that the company is bringing in more free cash flow than its profit would suggest. 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.

For the year to March 2024, Zhejiang grandwall electric science&technologyltd had an accrual ratio of -0.30. Therefore, its statutory earnings were very significantly less than its free cashflow. In fact, it had free cash flow of CN¥730m in the last year, which was a lot more than its statutory profit of CN¥242.1m. Zhejiang grandwall electric science&technologyltd's free cash flow improved over the last year, which is generally good to see. 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.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Zhejiang grandwall electric science&technologyltd.

How Do Unusual Items Influence Profit?

Zhejiang grandwall electric science&technologyltd's profit was reduced by unusual items worth CN¥42m in the last twelve months, and this helped it produce high cash conversion, as reflected by its unusual items. This is what you'd expect to see where a company has a non-cash charge reducing paper profits. 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 Zhejiang grandwall electric science&technologyltd to produce a higher profit next year, all else being equal.

Our Take On Zhejiang grandwall electric science&technologyltd's Profit Performance

In conclusion, both Zhejiang grandwall electric science&technologyltd's accrual ratio and its unusual items suggest that its statutory earnings are probably reasonably conservative. After considering all this, we reckon Zhejiang grandwall electric science&technologyltd's statutory profit probably understates its earnings potential! With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. You'd be interested to know, that we found 1 warning sign for Zhejiang grandwall electric science&technologyltd and you'll want to know about it.

After our examination into the nature of Zhejiang grandwall electric science&technologyltd's profit, we've come away optimistic for the company. 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 that insiders are buying.

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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.