Shinelong Automotive Lightweight Application's (HKG:1930) Earnings Are Growing But Is There More To The Story?

Statistically speaking, it is less risky to invest in profitable companies than in unprofitable ones. However, sometimes companies receive a one-off boost (or reduction) to their profit, and it's not always clear whether statutory profits are a good guide, going forward. In this article, we'll look at how useful this year's statutory profit is, when analysing Shinelong Automotive Lightweight Application (HKG:1930).

We like the fact that Shinelong Automotive Lightweight Application made a profit of CN¥40.0m on its revenue of CN¥228.4m, in the last year. Happily, it has grown both its profit and revenue over the last three years (though we note its revenue is down over the last year).

Check out our latest analysis for Shinelong Automotive Lightweight Application

Of course, when it comes to statutory profit, the devil is often in the detail, and we can get a better sense for a company by diving deeper into the financial statements. So today we'll look at what Shinelong Automotive Lightweight Application's cashflow tells us about the quality of its earnings. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Shinelong Automotive Lightweight Application.

Zooming In On Shinelong Automotive Lightweight Application's Earnings

As finance nerds would already know, the accrual ratio from cashflow is a key measure for assessing how well a company's free cash flow (FCF) matches its profit. 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.

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. 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.

For the year to June 2020, Shinelong Automotive Lightweight Application had an accrual ratio of 0.26. We can therefore deduce that its free cash flow fell well short of covering its statutory profit. In the last twelve months it actually had negative free cash flow, with an outflow of CN¥8.7m despite its profit of CN¥40.0m, mentioned above. It's worth noting that Shinelong Automotive Lightweight Application generated positive FCF of CN¥29m a year ago, so at least they've done it in the past. One positive for Shinelong Automotive Lightweight Application shareholders is that it's accrual ratio was significantly better last year, providing reason to believe that it may return to stronger cash conversion in the future. Shareholders should look for improved cashflow relative to profit in the current year, if that is indeed the case.

Our Take On Shinelong Automotive Lightweight Application's Profit Performance

Shinelong Automotive Lightweight Application didn't convert much of its profit to free cash flow in the last year, which some investors may consider rather suboptimal. Because of this, we think that it may be that Shinelong Automotive Lightweight Application's statutory profits are better than its underlying earnings power. But at least holders can take some solace from the 48% EPS growth in the last year. 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. If you'd like to know more about Shinelong Automotive Lightweight Application as a business, it's important to be aware of any risks it's facing. Be aware that Shinelong Automotive Lightweight Application is showing 3 warning signs in our investment analysis and 1 of those is a bit concerning...

This note has only looked at a single factor that sheds light on the nature of Shinelong Automotive Lightweight Application's profit. But there is always more to discover if you are capable of focussing your mind on minutiae. 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 that insiders are buying.

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This article by Simply Wall St is general in nature. 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.
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