Chengdu KSW TechnologiesLtd's (SHSE:688283) Solid Earnings May Rest On Weak Foundations

Following the solid earnings report from Chengdu KSW Technologies Co.,Ltd. (SHSE:688283), the market responded by bidding up the stock price. While the profit numbers were good, our analysis has found some concerning factors that shareholders should be aware of.

View our latest analysis for Chengdu KSW TechnologiesLtd

A Closer Look At Chengdu KSW TechnologiesLtd'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. 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.

Over the twelve months to March 2024, Chengdu KSW TechnologiesLtd recorded an accrual ratio of 0.37. 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¥32m, in contrast to the aforementioned profit of CN¥87.4m. We also note that Chengdu KSW TechnologiesLtd's free cash flow was actually negative last year as well, so we could understand if shareholders were bothered by its outflow of CN¥32m.

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 Chengdu KSW TechnologiesLtd's Profit Performance

As we have made quite clear, we're a bit worried that Chengdu KSW TechnologiesLtd didn't back up the last year's profit with free cashflow. As a result, we think it may well be the case that Chengdu KSW TechnologiesLtd's underlying earnings power is lower than its statutory profit. Nonetheless, it's still worth noting that its earnings per share have grown at 68% over the last three years. At the end of the day, it's essential to consider more than just the factors above, if you want to understand the company properly. If you want to do dive deeper into Chengdu KSW TechnologiesLtd, you'd also look into what risks it is currently facing. Every company has risks, and we've spotted 1 warning sign for Chengdu KSW TechnologiesLtd you should know about.

Today we've zoomed in on a single data point to better understand the nature of Chengdu KSW TechnologiesLtd'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. 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.