Minami Acoustics' (SZSE:301383) Solid Earnings May Rest On Weak Foundations

The market shrugged off Minami Acoustics Limited's (SZSE:301383) solid earnings report. Our analysis showed that there are some concerning factors in the earnings that investors may be cautious of.

See our latest analysis for Minami Acoustics

Examining Cashflow Against Minami Acoustics' Earnings

One key financial ratio used to measure how well a company converts its profit to free cash flow (FCF) is the accrual ratio. The accrual ratio subtracts the FCF from the profit for a given period, and divides the result by the average operating assets of the company over that time. 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. 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 September 2024, Minami Acoustics had an accrual ratio of 0.20. Unfortunately, that means its free cash flow fell significantly short of its reported profits. Indeed, in the last twelve months it reported free cash flow of CN¥1.0m, which is significantly less than its profit of CN¥194.1m. Notably, Minami Acoustics had negative free cash flow last year, so the CN¥1.0m it produced this year was a welcome improvement. However, that's not all there is to consider. We can see that unusual items have impacted its statutory profit, and therefore the accrual ratio.

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.

How Do Unusual Items Influence Profit?

Given the accrual ratio, it's not overly surprising that Minami Acoustics' profit was boosted by unusual items worth CN¥51m in the last twelve months. We can't deny that higher profits generally leave us optimistic, but we'd prefer it if the profit were to be sustainable. When we analysed the vast majority of listed companies worldwide, we found that significant unusual items are often not repeated. Which is hardly surprising, given the name. We can see that Minami Acoustics' positive unusual items were quite significant relative to its profit in the year to September 2024. All else being equal, this would likely have the effect of making the statutory profit a poor guide to underlying earnings power.

Our Take On Minami Acoustics' Profit Performance

Summing up, Minami Acoustics received a nice boost to profit from unusual items, but could not match its paper profit with free cash flow. Considering all this we'd argue Minami Acoustics' profits probably give an overly generous impression of its sustainable level of profitability. If you want to do dive deeper into Minami Acoustics, you'd also look into what risks it is currently facing. For example, Minami Acoustics has 3 warning signs (and 2 which make us uncomfortable) we think you should know about.

Our examination of Minami Acoustics has focussed on certain factors that can make its earnings look better than they are. And, on that basis, we are somewhat skeptical. 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. 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.