Weak Statutory Earnings May Not Tell The Whole Story For Tat Hong Equipment Service (HKG:2153)

The subdued market reaction suggests that Tat Hong Equipment Service Co., Ltd.'s (HKG:2153) recent earnings didn't contain any surprises. However, we believe that investors should be aware of some underlying factors which may be of concern.

See our latest analysis for Tat Hong Equipment Service

A Closer Look At Tat Hong Equipment Service'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.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. 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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Tat Hong Equipment Service has an accrual ratio of 0.22 for the year to March 2022. We can therefore deduce that its free cash flow fell well short of covering its statutory profit. Even though it reported a profit of CN¥47.6m, a look at free cash flow indicates it actually burnt through CN¥355m in the last year. Coming off the back of negative free cash flow last year, we imagine some shareholders might wonder if its cash burn of CN¥355m, this year, indicates high risk.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Tat Hong Equipment Service.

Our Take On Tat Hong Equipment Service's Profit Performance

Tat Hong Equipment Service's accrual ratio for the last twelve months signifies cash conversion is less than ideal, which is a negative when it comes to our view of its earnings. Therefore, it seems possible to us that Tat Hong Equipment Service's true underlying earnings power is actually less than its statutory profit. Sadly, its EPS was down over the last twelve months. 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'd like to know more about Tat Hong Equipment Service as a business, it's important to be aware of any risks it's facing. To that end, you should learn about the 2 warning signs we've spotted with Tat Hong Equipment Service (including 1 which shouldn't be ignored).

This note has only looked at a single factor that sheds light on the nature of Tat Hong Equipment Service'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 that insiders are buying.

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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.