We Think That There Are More Issues For Qingdao Gaoce Technology (SHSE:688556) Than Just Sluggish Earnings

The market wasn't impressed with the soft earnings from Qingdao Gaoce Technology Co., Ltd (SHSE:688556) recently. Our analysis has found some reasons to be concerned, beyond the weak headline numbers.

See our latest analysis for Qingdao Gaoce Technology

A Closer Look At Qingdao Gaoce Technology's Earnings

In high finance, the key ratio used to measure how well a company converts reported profits into free cash flow (FCF) is the accrual ratio (from cashflow). 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.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. 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. 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, Qingdao Gaoce Technology had an accrual ratio of 0.44. As a general rule, that bodes poorly for future profitability. To wit, the company did not generate one whit of free cashflow in that time. Over the last year it actually had negative free cash flow of CN¥723m, in contrast to the aforementioned profit of CN¥493.7m. We saw that FCF was CN¥705m a year ago though, so Qingdao Gaoce Technology has at least been able to generate positive FCF in the past.

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 Qingdao Gaoce Technology's Profit Performance

As we discussed above, we think Qingdao Gaoce Technology's earnings were not supported by free cash flow, which might concern some investors. For this reason, we think that Qingdao Gaoce Technology's statutory profits may be a bad guide to its underlying earnings power, and might give investors an overly positive impression of the company. But the good news is that its EPS growth over the last three years has been very impressive. 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. So while earnings quality is important, it's equally important to consider the risks facing Qingdao Gaoce Technology at this point in time. Our analysis shows 4 warning signs for Qingdao Gaoce Technology (3 are a bit unpleasant!) and we strongly recommend you look at these before investing.

This note has only looked at a single factor that sheds light on the nature of Qingdao Gaoce Technology'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 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.