Jilin Province Xidian Pharmaceutical Sci-Tech DevelopmentLtd's (SZSE:301130) Weak Earnings Might Be Worse Than They Appear

Shareholders didn't appear too concerned by Jilin Province Xidian Pharmaceutical Sci-Tech Development Co.,Ltd's (SZSE:301130) weak earnings. We did some digging, and we believe that investors are missing some worrying factors underlying the profit figures.

View our latest analysis for Jilin Province Xidian Pharmaceutical Sci-Tech DevelopmentLtd

Zooming In On Jilin Province Xidian Pharmaceutical Sci-Tech DevelopmentLtd'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. In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that 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 September 2024, Jilin Province Xidian Pharmaceutical Sci-Tech DevelopmentLtd recorded an accrual ratio of 0.27. We can therefore deduce that its free cash flow fell well short of covering its statutory profit. In the last twelve months it actually had negative free cash flow, with an outflow of CN¥83m despite its profit of CN¥43.3m, mentioned above. We also note that Jilin Province Xidian Pharmaceutical Sci-Tech DevelopmentLtd's free cash flow was actually negative last year as well, so we could understand if shareholders were bothered by its outflow of CN¥83m. However, that's not all there is to consider. The accrual ratio is reflecting the impact of unusual items on statutory profit, at least in part.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Jilin Province Xidian Pharmaceutical Sci-Tech DevelopmentLtd.

The Impact Of Unusual Items On Profit

The fact that the company had unusual items boosting profit by CN¥17m, in the last year, probably goes some way to explain why its accrual ratio was so weak. 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. Jilin Province Xidian Pharmaceutical Sci-Tech DevelopmentLtd had a rather significant contribution from unusual items relative to its profit to September 2024. All else being equal, this would likely have the effect of making the statutory profit a poor guide to underlying earnings power.

Our Take On Jilin Province Xidian Pharmaceutical Sci-Tech DevelopmentLtd's Profit Performance

Jilin Province Xidian Pharmaceutical Sci-Tech DevelopmentLtd had a weak accrual ratio, but its profit did receive a boost from unusual items. For the reasons mentioned above, we think that a perfunctory glance at Jilin Province Xidian Pharmaceutical Sci-Tech DevelopmentLtd's statutory profits might make it look better than it really is on an underlying level. If you'd like to know more about Jilin Province Xidian Pharmaceutical Sci-Tech DevelopmentLtd as a business, it's important to be aware of any risks it's facing. For example, we've found that Jilin Province Xidian Pharmaceutical Sci-Tech DevelopmentLtd has 3 warning signs (2 are significant!) that deserve your attention before going any further with your analysis.

Our examination of Jilin Province Xidian Pharmaceutical Sci-Tech DevelopmentLtd has focussed on certain factors that can make its earnings look better than they are. And, on that basis, we are somewhat skeptical. 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. 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.