Does Waida Mfg.Ltd's (TYO:6158) Statutory Profit Adequately Reflect Its Underlying Profit?

As a general rule, we think profitable companies are less risky than companies that lose money. Having said that, sometimes statutory profit levels are not a good guide to ongoing profitability, because some short term one-off factor has impacted profit levels. Today we'll focus on whether this year's statutory profits are a good guide to understanding Waida Mfg.Ltd (TYO:6158).

While Waida Mfg.Ltd was able to generate revenue of JP¥5.86b in the last twelve months, we think its profit result of JP¥534.0m was more important. One positive is that it has grown both its profit and its revenue, over the last few years, though not in the last twelve months.

View our latest analysis for Waida Mfg.Ltd

Of course, it is only sensible to look beyond the statutory profits and question how well those numbers represent the sustainable earnings power of the business. So today we'll look at what Waida Mfg.Ltd'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 Waida Mfg.Ltd.

Zooming In On Waida Mfg.Ltd'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. This ratio tells us how much of a company's profit is not backed by free cashflow.

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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

For the year to September 2020, Waida Mfg.Ltd had an accrual ratio of -0.14. That implies it has good cash conversion, and implies that its free cash flow solidly exceeded its profit last year. Indeed, in the last twelve months it reported free cash flow of JP¥1.1b, well over the JP¥534.0m it reported in profit. Waida Mfg.Ltd shareholders are no doubt pleased that free cash flow improved over the last twelve months.

Our Take On Waida Mfg.Ltd's Profit Performance

Waida Mfg.Ltd's accrual ratio is solid, and indicates strong free cash flow, as we discussed, above. Because of this, we think Waida Mfg.Ltd's earnings potential is at least as good as it seems, and maybe even better! Better yet, its EPS are growing strongly, which is nice to see. 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. So while earnings quality is important, it's equally important to consider the risks facing Waida Mfg.Ltd at this point in time. While conducting our analysis, we found that Waida Mfg.Ltd has 2 warning signs and it would be unwise to ignore these bad boys.

This note has only looked at a single factor that sheds light on the nature of Waida Mfg.Ltd'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. 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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