Weak Statutory Earnings May Not Tell The Whole Story For Zhejiang Shuangyuan Technology (SHSE:688623)

A lackluster earnings announcement from Zhejiang Shuangyuan Technology Co., Ltd. (SHSE:688623) last week didn't sink the stock price. Our analysis suggests that along with soft profit numbers, investors should be aware of some other underlying weaknesses in the numbers.

View our latest analysis for Zhejiang Shuangyuan Technology

A Closer Look At Zhejiang Shuangyuan 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.

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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

Zhejiang Shuangyuan Technology has an accrual ratio of 0.20 for the year to September 2024. Unfortunately, that means its free cash flow fell significantly short of its reported profits. Even though it reported a profit of CN¥95.7m, a look at free cash flow indicates it actually burnt through CN¥21m in the last year. We saw that FCF was CN¥24m a year ago though, so Zhejiang Shuangyuan Technology has at least been able to generate positive FCF in the past. 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.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Zhejiang Shuangyuan Technology.

The Impact Of Unusual Items On Profit

Given the accrual ratio, it's not overly surprising that Zhejiang Shuangyuan Technology's profit was boosted by unusual items worth CN¥15m in the last twelve months. 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. And that's as you'd expect, given these boosts are described as 'unusual'. We can see that Zhejiang Shuangyuan Technology's positive unusual items were quite significant relative to its profit in the year to September 2024. As a result, we can surmise that the unusual items are making its statutory profit significantly stronger than it would otherwise be.

Our Take On Zhejiang Shuangyuan Technology's Profit Performance

Summing up, Zhejiang Shuangyuan Technology 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 Zhejiang Shuangyuan Technology's profits probably give an overly generous impression of its sustainable level of profitability. If you want to do dive deeper into Zhejiang Shuangyuan Technology, you'd also look into what risks it is currently facing. Case in point: We've spotted 4 warning signs for Zhejiang Shuangyuan Technology you should be mindful of and 3 of these don't sit too well with us.

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. 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.