Asaka RikenLtd (TSE:5724) Posted Weak Earnings But There Is More To Worry About

Shareholders didn't appear too concerned by Asaka Riken Co.,Ltd.'s (TSE:5724) weak earnings. We did some analysis and found some concerning details beneath the statutory profit number.

Check out our latest analysis for Asaka RikenLtd

A Closer Look At Asaka RikenLtd's Earnings

In high finance, the key ratio used to measure how well a company converts reported profits into free cash flow (FCF) is the accrual ratio (from cashflow). 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'.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. 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 March 2024, Asaka RikenLtd recorded an accrual ratio of 0.21. Unfortunately, that means its free cash flow fell significantly short of its reported profits. In the last twelve months it actually had negative free cash flow, with an outflow of JP¥640m despite its profit of JP¥292.0m, mentioned above. It's worth noting that Asaka RikenLtd generated positive FCF of JP¥399m a year ago, so at least they've done it in the past. Having said that, there is more to the story. We can see that unusual items have impacted its statutory profit, and therefore the accrual ratio.

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

How Do Unusual Items Influence Profit?

Given the accrual ratio, it's not overly surprising that Asaka RikenLtd's profit was boosted by unusual items worth JP¥235m in the last twelve months. While we like to see profit increases, we tend to be a little more cautious when unusual items have made a big contribution. When we crunched the numbers on thousands of publicly listed companies, we found that a boost from unusual items in a given year is often not repeated the next year. And, after all, that's exactly what the accounting terminology implies. We can see that Asaka RikenLtd's positive unusual items were quite significant relative to its profit in the year to March 2024. As a result, we can surmise that the unusual items are making its statutory profit significantly stronger than it would otherwise be.

Our Take On Asaka RikenLtd's Profit Performance

Asaka RikenLtd had a weak accrual ratio, but its profit did receive a boost from unusual items. Considering all this we'd argue Asaka RikenLtd's profits probably give an overly generous impression of its sustainable level of profitability. If you'd like to know more about Asaka RikenLtd as a business, it's important to be aware of any risks it's facing. To help with this, we've discovered 3 warning signs (1 makes us a bit uncomfortable!) that you ought to be aware of before buying any shares in Asaka RikenLtd.

Our examination of Asaka RikenLtd has focussed on certain factors that can make its earnings look better than they are. And, on that basis, we are somewhat skeptical. But there is always more to discover if you are capable of focussing your mind on minutiae. For example, many people consider a high return on equity as an indication of favorable business economics, while others like to 'follow the money' and search out stocks that insiders are buying. 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 with significant insider holdings 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.