Investors Can Find Comfort In Shaanxi Coal Industry's (SHSE:601225) Earnings Quality

Shareholders appeared unconcerned with Shaanxi Coal Industry Company Limited's (SHSE:601225) lackluster earnings report last week. We did some digging, and we believe the earnings are stronger than they seem.

See our latest analysis for Shaanxi Coal Industry

Zooming In On Shaanxi Coal Industry's Earnings

As finance nerds would already know, the accrual ratio from cashflow is a key measure for assessing how well a company's free cash flow (FCF) matches its profit. 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.

That means a negative accrual ratio is a good thing, because it shows that the company is bringing in more free cash flow than its profit would suggest. 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 September 2024, Shaanxi Coal Industry had an accrual ratio of -0.11. Therefore, its statutory earnings were quite a lot less than its free cashflow. To wit, it produced free cash flow of CN¥31b during the period, dwarfing its reported profit of CN¥21.0b. Shaanxi Coal Industry's free cash flow actually declined over the last year, which is disappointing, like non-biodegradable balloons.

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 Shaanxi Coal Industry's Profit Performance

As we discussed above, Shaanxi Coal Industry has perfectly satisfactory free cash flow relative to profit. Based on this observation, we consider it likely that Shaanxi Coal Industry's statutory profit actually understates its earnings potential! And the EPS is up 19% annually, over the last three years. Of course, we've only just scratched the surface when it comes to analysing its earnings; one could also consider margins, forecast growth, and return on investment, among other factors. In light of this, if you'd like to do more analysis on the company, it's vital to be informed of the risks involved. While conducting our analysis, we found that Shaanxi Coal Industry has 1 warning sign and it would be unwise to ignore it.

This note has only looked at a single factor that sheds light on the nature of Shaanxi Coal Industry'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.