We Believe That Beijing Asiacom Information Technology Co.Ltd's (SZSE:301085) Weak Earnings Are A Good Indicator Of Underlying Profitability

Investors were disappointed with Beijing Asiacom Information Technology Co,.Ltd's (SZSE:301085) recent earnings. We looked deeper and believe that there is even more to be worried about, beyond the soft profit numbers.

Check out our latest analysis for Beijing Asiacom Information Technology Co.Ltd

Zooming In On Beijing Asiacom Information Technology Co.Ltd'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). To get the accrual ratio we first subtract FCF from profit for a period, and then divide that number by the average operating assets for the period. This ratio tells us how much of a company's profit is not backed by free cashflow.

That means a negative accrual ratio is a good thing, because it shows that the company is bringing in more free cash flow than its profit would suggest. 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.

Beijing Asiacom Information Technology Co.Ltd has an accrual ratio of 0.84 for the year to December 2023. Statistically speaking, that's a real negative for future earnings. And indeed, during the period the company didn't produce any free cash flow whatsoever. Over the last year it actually had negative free cash flow of CN¥556m, in contrast to the aforementioned profit of CN¥77.9m. It's worth noting that Beijing Asiacom Information Technology Co.Ltd generated positive FCF of CN¥34m a year ago, so at least they've done it in the past. Unfortunately for shareholders, the company has also been issuing new shares, diluting their share of future earnings.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Beijing Asiacom Information Technology Co.Ltd.

One essential aspect of assessing earnings quality is to look at how much a company is diluting shareholders. In fact, Beijing Asiacom Information Technology Co.Ltd increased the number of shares on issue by 7.9% over the last twelve months by issuing new shares. As a result, its net income is now split between a greater number of shares. To talk about net income, without noticing earnings per share, is to be distracted by the big numbers while ignoring the smaller numbers that talk to per share value. You can see a chart of Beijing Asiacom Information Technology Co.Ltd's EPS by clicking here.

A Look At The Impact Of Beijing Asiacom Information Technology Co.Ltd's Dilution On Its Earnings Per Share (EPS)

Unfortunately, Beijing Asiacom Information Technology Co.Ltd's profit is down 21% per year over three years. Even looking at the last year, profit was still down 3.2%. Sadly, earnings per share fell further, down a full 4.9% in that time. Therefore, the dilution is having a noteworthy influence on shareholder returns.

In the long term, if Beijing Asiacom Information Technology Co.Ltd's earnings per share can increase, then the share price should too. However, if its profit increases while its earnings per share stay flat (or even fall) then shareholders might not see much benefit. For the ordinary retail shareholder, EPS is a great measure to check your hypothetical "share" of the company's profit.

Our Take On Beijing Asiacom Information Technology Co.Ltd's Profit Performance

In conclusion, Beijing Asiacom Information Technology Co.Ltd has weak cashflow relative to earnings, which indicates lower quality earnings, and the dilution means that shareholders now own a smaller proportion of the company (assuming they maintained the same number of shares). For the reasons mentioned above, we think that a perfunctory glance at Beijing Asiacom Information Technology Co.Ltd's statutory profits might make it look better than it really is on an underlying level. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. For example, Beijing Asiacom Information Technology Co.Ltd has 3 warning signs (and 2 which can't be ignored) we think you should know about.

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 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.