We Think That There Are More Issues For Guangdong Tianhe Agricultural Means of Production (SZSE:002999) Than Just Sluggish Earnings

The market shrugged off Guangdong Tianhe Agricultural Means of Production Co., Ltd.'s (SZSE:002999) weak earnings report last week. We looked at the details, and we think that investors may be responding to some encouraging factors.

See our latest analysis for Guangdong Tianhe Agricultural Means of Production

A Closer Look At Guangdong Tianhe Agricultural Means of Production'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.

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 December 2023, Guangdong Tianhe Agricultural Means of Production had an accrual ratio of 0.30. 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. Over the last year it actually had negative free cash flow of CN¥316m, in contrast to the aforementioned profit of CN¥100.2m. Coming off the back of negative free cash flow last year, we imagine some shareholders might wonder if its cash burn of CN¥316m, this year, indicates high risk. Having said that, there is more to the story. We can see that unusual items have impacted its statutory profit, and therefore the accrual ratio.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Guangdong Tianhe Agricultural Means of Production.

The Impact Of Unusual Items On Profit

Unfortunately (in the short term) Guangdong Tianhe Agricultural Means of Production saw its profit reduced by unusual items worth CN¥81m. If this was a non-cash charge, it would have made the accrual ratio better, if cashflow had stayed strong, so it's not great to see in combination with an uninspiring accrual ratio. While deductions due to unusual items are disappointing in the first instance, there is a silver lining. We looked at thousands of listed companies and found that unusual items are very often one-off in nature. And that's hardly a surprise given these line items are considered unusual. Assuming those unusual expenses don't come up again, we'd therefore expect Guangdong Tianhe Agricultural Means of Production to produce a higher profit next year, all else being equal.

Our Take On Guangdong Tianhe Agricultural Means of Production's Profit Performance

Guangdong Tianhe Agricultural Means of Production saw unusual items weigh on its profit, which should have made it easier to show high cash conversion, which it did not do, according to its accrual ratio. Based on these factors, it's hard to tell if Guangdong Tianhe Agricultural Means of Production's profits are a reasonable reflection of its underlying profitability. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. Case in point: We've spotted 2 warning signs for Guangdong Tianhe Agricultural Means of Production you should be mindful of and 1 of these bad boys is concerning.

Our examination of Guangdong Tianhe Agricultural Means of Production has focussed on certain factors that can make its earnings look better than they are. 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. So you may wish to see this free collection of companies boasting high return on equity, or this list of stocks that insiders are buying.

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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.