Fortior Technology (Shenzhen)'s (SHSE:688279) Earnings Are Weaker Than They Seem

Despite announcing strong earnings, Fortior Technology (Shenzhen) Co., Ltd.'s (SHSE:688279) stock was sluggish. We did some digging and found some worrying underlying problems.

Check out our latest analysis for Fortior Technology (Shenzhen)

A Closer Look At Fortior Technology (Shenzhen)'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. 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. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".

For the year to September 2024, Fortior Technology (Shenzhen) had an accrual ratio of 0.21. Therefore, we know that it's free cashflow was significantly lower than its statutory profit, which is hardly a good thing. To wit, it produced free cash flow of CN¥13m during the period, falling well short of its reported profit of CN¥234.7m. Fortior Technology (Shenzhen)'s free cash flow actually declined over the last year, but it may bounce back next year, since free cash flow is often more volatile than accounting profits. 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.

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.

The Impact Of Unusual Items On Profit

Given the accrual ratio, it's not overly surprising that Fortior Technology (Shenzhen)'s profit was boosted by unusual items worth CN¥13m in the last twelve months. We can't deny that higher profits generally leave us optimistic, but we'd prefer it if the profit were to be sustainable. 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. And, after all, that's exactly what the accounting terminology implies. Assuming those unusual items don't show up again in the current year, we'd thus expect profit to be weaker next year (in the absence of business growth, that is).

Our Take On Fortior Technology (Shenzhen)'s Profit Performance

Summing up, Fortior Technology (Shenzhen) received a nice boost to profit from unusual items, but could not match its paper profit with free cash flow. Considering all this we'd argue Fortior Technology (Shenzhen)'s profits probably give an overly generous impression of its sustainable level of profitability. If you'd like to know more about Fortior Technology (Shenzhen) as a business, it's important to be aware of any risks it's facing. Our analysis shows 2 warning signs for Fortior Technology (Shenzhen) (1 is a bit concerning!) and we strongly recommend you look at them before investing.

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.