Life Intelligent Enterprise HoldingsLtd's (TSE:5856) Profits May Be Overstating Its True Earnings Potential

Life Intelligent Enterprise Holdings Co.,Ltd.'s (TSE:5856) solid earnings report last week was underwhelming to investors. We did some digging and found some worrying factors that they might be paying attention to.

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Examining Cashflow Against Life Intelligent Enterprise HoldingsLtd'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. 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. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".

Life Intelligent Enterprise HoldingsLtd has an accrual ratio of 1.11 for the year to March 2025. Statistically speaking, that's a real negative for future earnings. To wit, the company did not generate one whit of free cashflow in that time. Even though it reported a profit of JP¥194.0m, a look at free cash flow indicates it actually burnt through JP¥2.2b in the last year. We also note that Life Intelligent Enterprise HoldingsLtd's free cash flow was actually negative last year as well, so we could understand if shareholders were bothered by its outflow of JP¥2.2b. Having said that, there is more to consider. We must also consider the impact of unusual items on statutory profit (and thus the accrual ratio), as well as note the ramifications of the company issuing new shares. One positive for Life Intelligent Enterprise HoldingsLtd 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. Shareholders should look for improved cashflow relative to profit in the current year, if that is indeed the case.

Check out our latest analysis for Life Intelligent Enterprise HoldingsLtd

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Life Intelligent Enterprise HoldingsLtd.

To understand the value of a company's earnings growth, it is imperative to consider any dilution of shareholders' interests. As it happens, Life Intelligent Enterprise HoldingsLtd issued 45% more new shares over the last year. As a result, its net income is now split between a greater number of shares. To celebrate net income while ignoring dilution is like rejoicing because you have a single slice of a larger pizza, but ignoring the fact that the pizza is now cut into many more slices. You can see a chart of Life Intelligent Enterprise HoldingsLtd's EPS by clicking here.

A Look At The Impact Of Life Intelligent Enterprise HoldingsLtd's Dilution On Its Earnings Per Share (EPS)

We don't have any data on the company's profits from three years ago. Zooming in to the last year, we still can't talk about growth rates coherently, since it made a loss last year. What we do know is that while it's great to see a profit over the last twelve months, that profit would have been better, on a per share basis, if the company hadn't needed to issue shares. Therefore, one can observe that the dilution is having a fairly profound effect on shareholder returns.

In the long term, if Life Intelligent Enterprise HoldingsLtd's earnings per share can increase, then the share price should too. However, if its profit increases while its earnings per share stay flat (or even fall) then shareholders might not see much benefit. For the ordinary retail shareholder, EPS is a great measure to check your hypothetical "share" of the company's profit.

How Do Unusual Items Influence Profit?

Given the accrual ratio, it's not overly surprising that Life Intelligent Enterprise HoldingsLtd's profit was boosted by unusual items worth JP¥2.2b in the last twelve months. While it's always nice to have higher profit, a large contribution from unusual items sometimes dampens our enthusiasm. We ran the numbers on most publicly listed companies worldwide, and it's very common for unusual items to be once-off in nature. And that's as you'd expect, given these boosts are described as 'unusual'. We can see that Life Intelligent Enterprise HoldingsLtd's positive unusual items were quite significant relative to its profit in the year to March 2025. All else being equal, this would likely have the effect of making the statutory profit a poor guide to underlying earnings power.

Our Take On Life Intelligent Enterprise HoldingsLtd's Profit Performance

Life Intelligent Enterprise HoldingsLtd didn't back up its earnings with free cashflow, but this isn't too surprising given profits were inflated by unusual items. The dilution means the results are weaker when viewed from a per-share perspective. On reflection, the above-mentioned factors give us the strong impression that Life Intelligent Enterprise HoldingsLtd'sunderlying earnings power is not as good as it might seem, based on the statutory profit numbers. So if you'd like to dive deeper into this stock, it's crucial to consider any risks it's facing. To that end, you should learn about the 4 warning signs we've spotted with Life Intelligent Enterprise HoldingsLtd (including 3 which shouldn't be ignored).

Our examination of Life Intelligent Enterprise HoldingsLtd 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 are plenty of other ways to inform your opinion of a company. 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.