We Believe Jiangsu Aoyang Health Industryltd's (SZSE:002172) Earnings Are A Poor Guide For Its Profitability

Even though Jiangsu Aoyang Health Industry Co.ltd. (SZSE:002172) posted strong earnings recently, the stock hasn't reacted in a large way. We looked deeper into the numbers and found that shareholders might be concerned with some underlying weaknesses.

See our latest analysis for Jiangsu Aoyang Health Industryltd

A Closer Look At Jiangsu Aoyang Health Industryltd'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.

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

For the year to June 2024, Jiangsu Aoyang Health Industryltd had an accrual ratio of 0.70. As a general rule, that bodes poorly for future profitability. And indeed, during the period the company didn't produce any free cash flow whatsoever. Even though it reported a profit of CN¥51.5m, a look at free cash flow indicates it actually burnt through CN¥407m in the last year. We saw that FCF was CN¥237m a year ago though, so Jiangsu Aoyang Health Industryltd has at least been able to generate positive FCF in the past. 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. One positive for Jiangsu Aoyang Health Industryltd shareholders is that it's accrual ratio was significantly better last year, providing reason to believe that it may return to stronger cash conversion in the future. As a result, some shareholders may be looking for stronger cash conversion in the current year.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Jiangsu Aoyang Health Industryltd.

The Impact Of Unusual Items On Profit

Given the accrual ratio, it's not overly surprising that Jiangsu Aoyang Health Industryltd's profit was boosted by unusual items worth CN¥14m in the last twelve months. While it's always nice to have higher profit, a large contribution from unusual items sometimes dampens our enthusiasm. When we crunched the numbers on thousands of publicly listed companies, we found that a boost from unusual items in a given year is often not repeated the next year. Which is hardly surprising, given the name. If Jiangsu Aoyang Health Industryltd doesn't see that contribution repeat, then all else being equal we'd expect its profit to drop over the current year.

Our Take On Jiangsu Aoyang Health Industryltd's Profit Performance

Summing up, Jiangsu Aoyang Health Industryltd received a nice boost to profit from unusual items, but could not match its paper profit with free cash flow. For the reasons mentioned above, we think that a perfunctory glance at Jiangsu Aoyang Health Industryltd's statutory profits might make it look better than it really is on an underlying level. If you'd like to know more about Jiangsu Aoyang Health Industryltd as a business, it's important to be aware of any risks it's facing. At Simply Wall St, we found 2 warning signs for Jiangsu Aoyang Health Industryltd and we think they deserve your attention.

In this article we've looked at a number of factors that can impair the utility of profit numbers, and we've come away cautious. 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. 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 with significant insider holdings 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.