Swang Chai Chuan's (HKG:2321) Profits Appear To Have Quality Issues

Swang Chai Chuan Limited's (HKG:2321) robust recent earnings didn't do much to move the stock. However the statutory profit number doesn't tell the whole story, and we have found some factors which might be of concern to shareholders.

Check out our latest analysis for Swang Chai Chuan

Zooming In On Swang Chai Chuan's Earnings

Many investors haven't heard of the accrual ratio from cashflow, but it is actually a useful measure of how well a company's profit is backed up by free cash flow (FCF) during a given period. In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that period. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

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.

Swang Chai Chuan has an accrual ratio of 0.21 for the year to June 2023. We can therefore deduce that its free cash flow fell well short of covering its statutory profit. Even though it reported a profit of RM27.2m, a look at free cash flow indicates it actually burnt through RM12m 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 RM12m, 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 Swang Chai Chuan.

Our Take On Swang Chai Chuan's Profit Performance

Swang Chai Chuan didn't convert much of its profit to free cash flow in the last year, which some investors may consider rather suboptimal. Therefore, it seems possible to us that Swang Chai Chuan's true underlying earnings power is actually less than its statutory profit. In further bad news, its earnings per share decreased in the last year. 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 Swang Chai Chuan as a business, it's important to be aware of any risks it's facing. Our analysis shows 2 warning signs for Swang Chai Chuan (1 is a bit concerning!) and we strongly recommend you look at these before investing.

Today we've zoomed in on a single data point to better understand the nature of Swang Chai Chuan'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.