Shijiazhuang Tonhe Electronics TechnologiesLtd (SZSE:300491) Strong Profits May Be Masking Some Underlying Issues

Shijiazhuang Tonhe Electronics Technologies Co.,Ltd.'s (SZSE:300491 ) stock didn't jump after it announced some healthy earnings. We did some digging and believe investors may be worried about some underlying factors in the report.

See our latest analysis for Shijiazhuang Tonhe Electronics TechnologiesLtd

A Closer Look At Shijiazhuang Tonhe Electronics TechnologiesLtd'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'.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. While having an accrual ratio above zero is of little concern, we do think it's worth noting when a company has a relatively high accrual ratio. 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 March 2024, Shijiazhuang Tonhe Electronics TechnologiesLtd had an accrual ratio of 0.27. Unfortunately, that means its free cash flow fell significantly short of its reported profits. Over the last year it actually had negative free cash flow of CN¥183m, in contrast to the aforementioned profit of CN¥94.5m. We also note that Shijiazhuang Tonhe Electronics TechnologiesLtd's free cash flow was actually negative last year as well, so we could understand if shareholders were bothered by its outflow of CN¥183m. However, that's not all there is to consider. 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

Unfortunately (in the short term) Shijiazhuang Tonhe Electronics TechnologiesLtd saw its profit reduced by unusual items worth CN¥23m. In the case where this was a non-cash charge it would have made it easier to have high cash conversion, so it's surprising that the accrual ratio tells a different story. 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, after all, that's exactly what the accounting terminology implies. If Shijiazhuang Tonhe Electronics TechnologiesLtd doesn't see those unusual expenses repeat, then all else being equal we'd expect its profit to increase over the coming year.

Our Take On Shijiazhuang Tonhe Electronics TechnologiesLtd's Profit Performance

In conclusion, Shijiazhuang Tonhe Electronics TechnologiesLtd's accrual ratio suggests that its statutory earnings are not backed by cash flow, even though unusual items weighed on profit. Based on these factors, we think it's very unlikely that Shijiazhuang Tonhe Electronics TechnologiesLtd's statutory profits make it seem much weaker than it is. If you want to do dive deeper into Shijiazhuang Tonhe Electronics TechnologiesLtd, you'd also look into what risks it is currently facing. To that end, you should learn about the 2 warning signs we've spotted with Shijiazhuang Tonhe Electronics TechnologiesLtd (including 1 which is potentially serious).

Our examination of Shijiazhuang Tonhe Electronics TechnologiesLtd has focussed on certain factors that can make its earnings look better than they are. But there are plenty of other ways to inform your opinion of a company. 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 that insiders are buying 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.