Solid Earnings Reflect Hunan Valin Wire & CableLtd's (SZSE:001208) Strength As A Business

The subdued stock price reaction suggests that Hunan Valin Wire & Cable Co.,Ltd.'s (SZSE:001208) strong earnings didn't offer any surprises. Investors are probably missing some underlying factors which are encouraging for the future of the company.

View our latest analysis for Hunan Valin Wire & CableLtd

Examining Cashflow Against Hunan Valin Wire & CableLtd'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. 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.

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 September 2024, Hunan Valin Wire & CableLtd had an accrual ratio of -0.19. Therefore, its statutory earnings were very significantly less than its free cashflow. In fact, it had free cash flow of CN¥487m in the last year, which was a lot more than its statutory profit of CN¥110.3m. Hunan Valin Wire & CableLtd'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 Hunan Valin Wire & CableLtd.

How Do Unusual Items Influence Profit?

Surprisingly, given Hunan Valin Wire & CableLtd's accrual ratio implied strong cash conversion, its paper profit was actually boosted by CN¥14m in unusual items. We can't deny that higher profits generally leave us optimistic, but we'd prefer it if the profit were to be sustainable. We ran the numbers on most publicly listed companies worldwide, and it's very common for unusual items to be once-off in nature. And that's as you'd expect, given these boosts are described as 'unusual'. If Hunan Valin Wire & CableLtd 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 Hunan Valin Wire & CableLtd's Profit Performance

In conclusion, Hunan Valin Wire & CableLtd's accrual ratio suggests its statutory earnings are of good quality, but on the other hand the profits were boosted by unusual items. Based on these factors, we think that Hunan Valin Wire & CableLtd's profits are a reasonably conservative guide to its underlying profitability. If you want to do dive deeper into Hunan Valin Wire & CableLtd, you'd also look into what risks it is currently facing. In terms of investment risks, we've identified 1 warning sign with Hunan Valin Wire & CableLtd, and understanding it should be part of your investment process.

In this article we've looked at a number of factors that can impair the utility of profit numbers, as a guide to a business. But there is always more to discover if you are capable of focussing your mind on minutiae. Some people consider a high return on equity to be a good sign of a quality business. 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.