Hiecise Precision EquipmentLtd (SZSE:300809) Posted Healthy Earnings But There Are Some Other Factors To Be Aware Of

Last week's profit announcement from Hiecise Precision Equipment Co.,Ltd. (SZSE:300809) was underwhelming for investors, despite headline numbers being robust. We did some digging and found some worrying underlying problems.

See our latest analysis for Hiecise Precision EquipmentLtd

Zooming In On Hiecise Precision EquipmentLtd'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. 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. The ratio shows us how much a company's profit exceeds its FCF.

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. 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".

Hiecise Precision EquipmentLtd has an accrual ratio of 0.38 for the year to March 2024. Statistically speaking, that's a real negative for future earnings. To wit, the company did not generate one whit of free cashflow in that time. Even though it reported a profit of CN¥129.9m, a look at free cash flow indicates it actually burnt through CN¥100m in the last year. It's worth noting that Hiecise Precision EquipmentLtd generated positive FCF of CN¥28m a year ago, so at least they've done it in the past.

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.

Our Take On Hiecise Precision EquipmentLtd's Profit Performance

As we discussed above, we think Hiecise Precision EquipmentLtd's earnings were not supported by free cash flow, which might concern some investors. For this reason, we think that Hiecise Precision EquipmentLtd's statutory profits may be a bad guide to its underlying earnings power, and might give investors an overly positive impression of the company. But the good news is that its EPS growth over the last three years has been very impressive. 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 Hiecise Precision EquipmentLtd at this point in time. While conducting our analysis, we found that Hiecise Precision EquipmentLtd 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 Hiecise Precision EquipmentLtd's profit. 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.