Guangdong Dongpeng HoldingsLtd's (SZSE:003012) Strong Earnings Are Of Good Quality

The subdued stock price reaction suggests that Guangdong Dongpeng Holdings Co.,Ltd.'s (SZSE:003012) 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 Guangdong Dongpeng HoldingsLtd

Zooming In On Guangdong Dongpeng HoldingsLtd's Earnings

One key financial ratio used to measure how well a company converts its profit to free cash flow (FCF) is the accrual ratio. 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'.

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

For the year to December 2023, Guangdong Dongpeng HoldingsLtd had an accrual ratio of -0.17. That indicates that its free cash flow quite significantly exceeded its statutory profit. In fact, it had free cash flow of CN¥1.6b in the last year, which was a lot more than its statutory profit of CN¥720.4m. Notably, Guangdong Dongpeng HoldingsLtd had negative free cash flow last year, so the CN¥1.6b it produced this year was a welcome improvement. Having said that, there is more to the story. The accrual ratio is reflecting the impact of unusual items on statutory profit, at least in part.

That might leave you wondering what analysts are forecasting in terms of future profitability. Luckily, you can click here to see an interactive graph depicting future profitability, based on their estimates.

The Impact Of Unusual Items On Profit

Guangdong Dongpeng HoldingsLtd's profit was reduced by unusual items worth CN¥115m 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 Guangdong Dongpeng HoldingsLtd to produce a higher profit next year, all else being equal.

Our Take On Guangdong Dongpeng HoldingsLtd's Profit Performance

Considering both Guangdong Dongpeng HoldingsLtd's accrual ratio and its unusual items, we think its statutory earnings are unlikely to exaggerate the company's underlying earnings power. Looking at all these factors, we'd say that Guangdong Dongpeng HoldingsLtd's underlying earnings power is at least as good as the statutory numbers would make it seem. Keep in mind, when it comes to analysing a stock it's worth noting the risks involved. Every company has risks, and we've spotted 1 warning sign for Guangdong Dongpeng HoldingsLtd you should know about.

Our examination of Guangdong Dongpeng HoldingsLtd has focussed on certain factors that can make its earnings look better than they are. And it has passed with flying colours. 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 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.