We Think Taste Gourmet Group's (HKG:8371) Statutory Profit Might Understate Its Earnings Potential

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 Taste Gourmet Group (HKG:8371).

It's good to see that over the last twelve months Taste Gourmet Group made a profit of HK$12.3m on revenue of HK$367.8m. Happily, it has grown both its profit and revenue over the last three years (though we note its profit is down over the last year).

See our latest analysis for Taste Gourmet Group

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 Taste Gourmet Group'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 Taste Gourmet Group.

A Closer Look At Taste Gourmet Group'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. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

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.

Over the twelve months to September 2020, Taste Gourmet Group recorded an accrual ratio of -1.04. Therefore, its statutory earnings were very significantly less than its free cashflow. In fact, it had free cash flow of HK$63m in the last year, which was a lot more than its statutory profit of HK$12.3m. Taste Gourmet Group's free cash flow actually declined over the last year, which is disappointing, like non-biodegradable balloons.

Our Take On Taste Gourmet Group's Profit Performance

Happily for shareholders, Taste Gourmet Group produced plenty of free cash flow to back up its statutory profit numbers. Based on this observation, we consider it possible that Taste Gourmet Group's statutory profit actually understates its earnings potential! And on top of that, its earnings per share have grown at 56% per year over the last three years. 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. In light of this, if you'd like to do more analysis on the company, it's vital to be informed of the risks involved. While conducting our analysis, we found that Taste Gourmet Group has 2 warning signs and it would be unwise to ignore these.

Today we've zoomed in on a single data point to better understand the nature of Taste Gourmet 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. 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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