Kunshan Asia Aroma's (SZSE:301220) Anemic Earnings Might Be Worse Than You Think

The market rallied behind Kunshan Asia Aroma Corp., Ltd.'s (SZSE:301220) stock, leading do a rise in the share price after its recent weak earnings report. While shareholders may be willing to overlook soft profit numbers, we believe that they should also be taking into account some other factors which may be cause for concern.

View our latest analysis for Kunshan Asia Aroma

A Closer Look At Kunshan Asia Aroma's Earnings

Many investors haven't heard of the accrual ratio from cashflow, but it is actually a useful measure of how well a company's profit is backed up by free cash flow (FCF) during a given period. 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. This ratio tells us how much of a company's profit is not backed by free cashflow.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. That is not intended to imply we should worry about a positive accrual ratio, but it's worth noting where the accrual ratio is rather high. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Kunshan Asia Aroma has an accrual ratio of 0.25 for the year to March 2024. Unfortunately, that means its free cash flow fell significantly short of its reported profits. In the last twelve months it actually had negative free cash flow, with an outflow of CN¥229m despite its profit of CN¥77.4m, mentioned above. We also note that Kunshan Asia Aroma's free cash flow was actually negative last year as well, so we could understand if shareholders were bothered by its outflow of CN¥229m.

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 Kunshan Asia Aroma's Profit Performance

Kunshan Asia Aroma didn't convert much of its profit to free cash flow in the last year, which some investors may consider rather suboptimal. Because of this, we think that it may be that Kunshan Asia Aroma's statutory profits are better than its underlying earnings power. 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. 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. For example, we've found that Kunshan Asia Aroma has 3 warning signs (1 is concerning!) that deserve your attention before going any further with your analysis.

Today we've zoomed in on a single data point to better understand the nature of Kunshan Asia Aroma's profit. 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.