We Think That There Are More Issues For Zhongtian Construction (Hunan) Group (HKG:2433) Than Just Sluggish Earnings

The subdued market reaction suggests that Zhongtian Construction (Hunan) Group Limited's (HKG:2433) recent earnings didn't contain any surprises. We think that investors are worried about some weaknesses underlying the earnings.

Check out our latest analysis for Zhongtian Construction (Hunan) Group

Zooming In On Zhongtian Construction (Hunan) Group'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. 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. 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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

Zhongtian Construction (Hunan) Group has an accrual ratio of 0.47 for the year to December 2023. Statistically speaking, that's a real negative for future earnings. To wit, the company did not generate one whit of free cashflow in that time. Even though it reported a profit of CN¥45.3m, a look at free cash flow indicates it actually burnt through CN¥150m in the last year. We saw that FCF was CN¥18m a year ago though, so Zhongtian Construction (Hunan) Group has at least been able to generate positive FCF in the past.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Zhongtian Construction (Hunan) Group.

Our Take On Zhongtian Construction (Hunan) Group's Profit Performance

As we discussed above, we think Zhongtian Construction (Hunan) Group's earnings were not supported by free cash flow, which might concern some investors. As a result, we think it may well be the case that Zhongtian Construction (Hunan) Group's underlying earnings power is lower than its statutory profit. Sadly, its EPS was down over the last twelve months. Of course, we've only just scratched the surface when it comes to analysing its earnings; one could also consider margins, forecast growth, and return on investment, among other factors. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. For instance, we've identified 3 warning signs for Zhongtian Construction (Hunan) Group (2 are potentially serious) you should be familiar with.

This note has only looked at a single factor that sheds light on the nature of Zhongtian Construction (Hunan) Group's profit. But there is always more to discover if you are capable of focussing your mind on minutiae. Some people consider a high return on equity to be a good sign of a quality business. 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.