Shida Shinghwa Advanced Material Group's (SHSE:603026) Weak Earnings May Only Reveal A Part Of The Whole Picture

A lackluster earnings announcement from Shida Shinghwa Advanced Material Group Co., Ltd. (SHSE:603026) last week didn't sink the stock price. Our analysis suggests that along with soft profit numbers, investors should be aware of some other underlying weaknesses in the numbers.

Check out our latest analysis for Shida Shinghwa Advanced Material Group

A Closer Look At Shida Shinghwa Advanced Material Group'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. 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.

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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Over the twelve months to June 2024, Shida Shinghwa Advanced Material Group recorded an accrual ratio of 0.35. We can therefore deduce that its free cash flow fell well short of covering its statutory profit, suggesting we might want to think twice before putting a lot of weight on the latter. Even though it reported a profit of CN¥37.5m, a look at free cash flow indicates it actually burnt through CN¥1.7b in the last year. We also note that Shida Shinghwa Advanced Material Group's free cash flow was actually negative last year as well, so we could understand if shareholders were bothered by its outflow of CN¥1.7b.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Shida Shinghwa Advanced Material Group.

Our Take On Shida Shinghwa Advanced Material Group's Profit Performance

As we discussed above, we think Shida Shinghwa Advanced Material Group's earnings were not supported by free cash flow, which might concern some investors. As a result, we think it may well be the case that Shida Shinghwa Advanced Material Group's underlying earnings power is lower than its statutory profit. Sadly, its EPS was down over the last twelve months. 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. So while earnings quality is important, it's equally important to consider the risks facing Shida Shinghwa Advanced Material Group at this point in time. Case in point: We've spotted 2 warning signs for Shida Shinghwa Advanced Material Group you should be mindful of and 1 of them is concerning.

This note has only looked at a single factor that sheds light on the nature of Shida Shinghwa Advanced Material Group's profit. 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.