Statutory Profit Doesn't Reflect How Good Medical Ikkou GroupLtd's (TSE:3353) Earnings Are

Medical Ikkou Group Co.,Ltd. (TSE:3353) just reported healthy earnings but the stock price didn't move much. Investors are probably missing some underlying factors which are encouraging for the future of the company.

View our latest analysis for Medical Ikkou GroupLtd

Zooming In On Medical Ikkou GroupLtd'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. 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. The ratio shows us how much a company's profit exceeds its FCF.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. While it's not a problem to have a positive accrual ratio, indicating a certain level of non-cash profits, a high accrual ratio is arguably a bad thing, because it indicates paper profits are not matched by cash flow. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".

Medical Ikkou GroupLtd has an accrual ratio of -0.19 for the year to February 2024. Therefore, its statutory earnings were very significantly less than its free cashflow. In fact, it had free cash flow of JP¥4.0b in the last year, which was a lot more than its statutory profit of JP¥1.04b. Medical Ikkou GroupLtd's free cash flow improved over the last year, which is generally good to see.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Medical Ikkou GroupLtd.

Our Take On Medical Ikkou GroupLtd's Profit Performance

Happily for shareholders, Medical Ikkou GroupLtd produced plenty of free cash flow to back up its statutory profit numbers. Based on this observation, we consider it possible that Medical Ikkou GroupLtd's statutory profit actually understates its earnings potential! And on top of that, its earnings per share have grown at 25% per year 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. 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. In terms of investment risks, we've identified 1 warning sign with Medical Ikkou GroupLtd, and understanding this should be part of your investment process.

This note has only looked at a single factor that sheds light on the nature of Medical Ikkou GroupLtd'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 that insiders are buying.

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

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.