Some May Be Optimistic About Daiko TsusanLtd's (TSE:7673) Earnings

Shareholders appeared unconcerned with Daiko Tsusan Co.,Ltd.'s (TSE:7673) lackluster earnings report last week. We did some digging, and we believe the earnings are stronger than they seem.

Check out our latest analysis for Daiko TsusanLtd

A Closer Look At Daiko TsusanLtd's Earnings

One key financial ratio used to measure how well a company converts its profit to free cash flow (FCF) is the accrual ratio. 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. This ratio tells us how much of a company's profit is not backed by free cashflow.

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

Over the twelve months to May 2024, Daiko TsusanLtd recorded an accrual ratio of -0.33. That indicates that its free cash flow quite significantly exceeded its statutory profit. Indeed, in the last twelve months it reported free cash flow of JP¥1.5b, well over the JP¥602.0m it reported in profit. Notably, Daiko TsusanLtd had negative free cash flow last year, so the JP¥1.5b it produced this year was a welcome improvement.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Daiko TsusanLtd.

Our Take On Daiko TsusanLtd's Profit Performance

Happily for shareholders, Daiko TsusanLtd produced plenty of free cash flow to back up its statutory profit numbers. Based on this observation, we consider it possible that Daiko TsusanLtd's statutory profit actually understates its earnings potential! On the other hand, its EPS actually shrunk in the last twelve months. 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. So while earnings quality is important, it's equally important to consider the risks facing Daiko TsusanLtd at this point in time. In terms of investment risks, we've identified 1 warning sign with Daiko TsusanLtd, and understanding it should be part of your investment process.

Today we've zoomed in on a single data point to better understand the nature of Daiko TsusanLtd'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 with high insider ownership.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com