We Think That There Are Issues Underlying Zhixin Group Holding's (HKG:2187) Earnings

Zhixin Group Holding Limited's (HKG:2187) robust earnings report didn't manage to move the market for its stock. We did some digging, and we found some concerning factors in the details.

See our latest analysis for Zhixin Group Holding

Zooming In On Zhixin Group Holding'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'.

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.

Over the twelve months to June 2021, Zhixin Group Holding recorded an accrual ratio of 0.42. 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¥65.7m, a look at free cash flow indicates it actually burnt through CN¥122m 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 CN¥122m, 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 Zhixin Group Holding.

Our Take On Zhixin Group Holding's Profit Performance

As we discussed above, we think Zhixin Group Holding'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 Zhixin Group Holding's underlying earnings power is lower than its statutory profit. But the good news is that its EPS growth over the last three years has been very impressive. 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. 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. For example - Zhixin Group Holding has 2 warning signs we think you should be aware of.

Today we've zoomed in on a single data point to better understand the nature of Zhixin Group Holding's profit. 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. While it might take a little research on your behalf, you may find this free collection of companies boasting high return on equity, or this list of stocks that insiders are buying to be useful.

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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.
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