Why Japan Reliance Service's (TSE:4664) Shaky Earnings Are Just The Beginning Of Its Problems

Japan Reliance Service Corporation's (TSE:4664) recent weak earnings report didn't cause a big stock movement. We think that investors are worried about some weaknesses underlying the earnings.

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A Closer Look At Japan Reliance Service'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. 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. 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. 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".

For the year to March 2025, Japan Reliance Service had an accrual ratio of 0.26. Unfortunately, that means its free cash flow fell significantly short of its reported profits. To wit, it produced free cash flow of JP¥12m during the period, falling well short of its reported profit of JP¥186.0m. Japan Reliance Service shareholders will no doubt be hoping that its free cash flow bounces back next year, since it was down over the last twelve months. One positive for Japan Reliance Service shareholders is that it's accrual ratio was significantly better last year, providing reason to believe that it may return to stronger cash conversion in the future. As a result, some shareholders may be looking for stronger cash conversion in the current year.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Japan Reliance Service.

Our Take On Japan Reliance Service's Profit Performance

Japan Reliance Service's accrual ratio for the last twelve months signifies cash conversion is less than ideal, which is a negative when it comes to our view of its earnings. Therefore, it seems possible to us that Japan Reliance Service's true underlying earnings power is actually less than its statutory profit. Nonetheless, it's still worth noting that its earnings per share have grown at 13% 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. So if you'd like to dive deeper into this stock, it's crucial to consider any risks it's facing. Be aware that Japan Reliance Service is showing 4 warning signs in our investment analysis and 1 of those doesn't sit too well with us...

Today we've zoomed in on a single data point to better understand the nature of Japan Reliance Service'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.