Henan Lingrui Pharmaceutical's (SHSE:600285) Earnings May Just Be The Starting Point

Henan Lingrui Pharmaceutical Co., Ltd. (SHSE:600285) just reported healthy earnings but the stock price didn't move much. We think that investors have missed some encouraging factors underlying the profit figures.

See our latest analysis for Henan Lingrui Pharmaceutical

Examining Cashflow Against Henan Lingrui Pharmaceutical's Earnings

One key financial ratio used to measure how well a company converts its profit to free cash flow (FCF) is the accrual ratio. 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 it's not a problem to have a positive accrual ratio, indicating a certain level of non-cash profits, a high accrual ratio is arguably a bad thing, because it indicates paper profits are not matched by cash flow. 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 March 2024, Henan Lingrui Pharmaceutical recorded an accrual ratio of -0.10. Therefore, its statutory earnings were quite a lot less than its free cashflow. In fact, it had free cash flow of CN¥756m in the last year, which was a lot more than its statutory profit of CN¥614.2m. Henan Lingrui Pharmaceutical'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 Henan Lingrui Pharmaceutical's Profit Performance

Henan Lingrui Pharmaceutical's accrual ratio is solid, and indicates strong free cash flow, as we discussed, above. Based on this observation, we consider it likely that Henan Lingrui Pharmaceutical's statutory profit actually understates its earnings potential! Better yet, its EPS are growing strongly, which is nice to see. The goal of this article has been to assess how well we can rely on the statutory earnings to reflect the company's potential, but there is plenty more to consider. If you want to do dive deeper into Henan Lingrui Pharmaceutical, you'd also look into what risks it is currently facing. In terms of investment risks, we've identified 1 warning sign with Henan Lingrui Pharmaceutical, and understanding it should be part of your investment process.

Today we've zoomed in on a single data point to better understand the nature of Henan Lingrui Pharmaceutical's profit. But there is always more to discover if you are capable of focussing your mind on minutiae. 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 that insiders are buying 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.