Shareholders Can Be Confident That Shanshan Brand Management's (HKG:1749) Earnings Are High Quality

Shanshan Brand Management Co., Ltd. (HKG:1749) just reported healthy earnings but the stock price didn't move much. Our analysis suggests that investors might be missing some promising details.

View our latest analysis for Shanshan Brand Management

Zooming In On Shanshan Brand Management'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). 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. 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.

For the year to December 2023, Shanshan Brand Management had an accrual ratio of -0.18. That indicates that its free cash flow quite significantly exceeded its statutory profit. To wit, it produced free cash flow of CN¥78m during the period, dwarfing its reported profit of CN¥31.6m. Shanshan Brand Management shareholders are no doubt pleased that free cash flow improved over the last twelve months.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Shanshan Brand Management.

Our Take On Shanshan Brand Management's Profit Performance

Happily for shareholders, Shanshan Brand Management produced plenty of free cash flow to back up its statutory profit numbers. Based on this observation, we consider it possible that Shanshan Brand Management's statutory profit actually understates its earnings potential! Furthermore, it has done a great job growing EPS over the last year. 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. So while earnings quality is important, it's equally important to consider the risks facing Shanshan Brand Management at this point in time. For instance, we've identified 3 warning signs for Shanshan Brand Management (1 makes us a bit uncomfortable) you should be familiar with.

Today we've zoomed in on a single data point to better understand the nature of Shanshan Brand Management'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. 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.