We Think Zhongshan Broad-Ocean Motor's (SZSE:002249) Robust Earnings Are Conservative

When companies post strong earnings, the stock generally performs well, just like Zhongshan Broad-Ocean Motor Co., Ltd.'s (SZSE:002249) stock has recently. We have done some analysis, and we found several positive factors beyond the profit numbers.

See our latest analysis for Zhongshan Broad-Ocean Motor

Examining Cashflow Against Zhongshan Broad-Ocean Motor'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. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

Zhongshan Broad-Ocean Motor has an accrual ratio of -0.20 for the year to June 2024. That indicates that its free cash flow quite significantly exceeded its statutory profit. Indeed, in the last twelve months it reported free cash flow of CN¥1.9b, well over the CN¥690.6m it reported in profit. Zhongshan Broad-Ocean Motor's free cash flow improved over the last year, which is generally good to see.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Zhongshan Broad-Ocean Motor.

Our Take On Zhongshan Broad-Ocean Motor's Profit Performance

As we discussed above, Zhongshan Broad-Ocean Motor's accrual ratio indicates strong conversion of profit to free cash flow, which is a positive for the company. Based on this observation, we consider it possible that Zhongshan Broad-Ocean Motor's statutory profit actually understates its earnings potential! And on top of that, its earnings per share have grown at an extremely impressive rate over the last three years. 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 Zhongshan Broad-Ocean Motor at this point in time. While conducting our analysis, we found that Zhongshan Broad-Ocean Motor has 1 warning sign and it would be unwise to ignore this.

This note has only looked at a single factor that sheds light on the nature of Zhongshan Broad-Ocean Motor'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. 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.