Shenzhen SNC Opto ElectronicLtd's (SZSE:001326) Shareholders Have More To Worry About Than Only Soft Earnings

Last week's earnings announcement from Shenzhen SNC Opto Electronic Co.,Ltd (SZSE:001326) was disappointing to investors, with a sluggish profit figure. We did some analysis, and found that there are some reasons to be cautious about the headline numbers.

See our latest analysis for Shenzhen SNC Opto ElectronicLtd

A Closer Look At Shenzhen SNC Opto ElectronicLtd'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. 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. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".

For the year to September 2024, Shenzhen SNC Opto ElectronicLtd had an accrual ratio of 0.41. 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¥38m despite its profit of CN¥113.7m, mentioned above. It's worth noting that Shenzhen SNC Opto ElectronicLtd generated positive FCF of CN¥9.1m a year ago, so at least they've done it in the past.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Shenzhen SNC Opto ElectronicLtd.

Our Take On Shenzhen SNC Opto ElectronicLtd's Profit Performance

As we have made quite clear, we're a bit worried that Shenzhen SNC Opto ElectronicLtd didn't back up the last year's profit with free cashflow. For this reason, we think that Shenzhen SNC Opto ElectronicLtd's statutory profits may be a bad guide to its underlying earnings power, and might give investors an overly positive impression of the company. Sadly, its EPS was down over the last twelve months. 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 Shenzhen SNC Opto ElectronicLtd at this point in time. For example, we've found that Shenzhen SNC Opto ElectronicLtd has 3 warning signs (1 is significant!) that deserve your attention before going any further with your analysis.

Today we've zoomed in on a single data point to better understand the nature of Shenzhen SNC Opto ElectronicLtd'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.