Ming Fai International Holdings' (HKG:3828) Earnings Are Weaker Than They Seem

Despite posting some strong earnings, the market for Ming Fai International Holdings Limited's (HKG:3828) stock hasn't moved much. We did some digging, and we found some concerning factors in the details.

See our latest analysis for Ming Fai International Holdings

Zooming In On Ming Fai International Holdings' Earnings

One key financial ratio used to measure how well a company converts its profit to free cash flow (FCF) is the accrual ratio. To get the accrual ratio we first subtract FCF from profit for a period, and then divide that number by the average operating assets for the period. The ratio shows us how much a company's profit exceeds its FCF.

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. 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. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".

Ming Fai International Holdings has an accrual ratio of -0.11 for the year to June 2023. That implies it has good cash conversion, and implies that its free cash flow solidly exceeded its profit last year. To wit, it produced free cash flow of HK$186m during the period, dwarfing its reported profit of HK$85.9m. Given that Ming Fai International Holdings had negative free cash flow in the prior corresponding period, the trailing twelve month resul of HK$186m would seem to be a step in the right direction. Having said that, there is more to the story. The accrual ratio is reflecting the impact of unusual items on statutory profit, at least in part.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Ming Fai International Holdings.

The Impact Of Unusual Items On Profit

While the accrual ratio might bode well, we also note that Ming Fai International Holdings' profit was boosted by unusual items worth HK$14m in the last twelve months. While it's always nice to have higher profit, a large contribution from unusual items sometimes dampens our enthusiasm. We ran the numbers on most publicly listed companies worldwide, and it's very common for unusual items to be once-off in nature. And, after all, that's exactly what the accounting terminology implies. Assuming those unusual items don't show up again in the current year, we'd thus expect profit to be weaker next year (in the absence of business growth, that is).

Our Take On Ming Fai International Holdings' Profit Performance

Ming Fai International Holdings' profits got a boost from unusual items, which indicates they might not be sustained and yet its accrual ratio still indicated solid cash conversion, which is promising. Based on these factors, it's hard to tell if Ming Fai International Holdings' profits are a reasonable reflection of its underlying profitability. If you'd like to know more about Ming Fai International Holdings as a business, it's important to be aware of any risks it's facing. Every company has risks, and we've spotted 3 warning signs for Ming Fai International Holdings (of which 1 is a bit unpleasant!) you should know about.

In this article we've looked at a number of factors that can impair the utility of profit numbers, as a guide to a business. But there are plenty of other ways to inform your opinion of a company. 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.