RentracksLTD's (TSE:6045) Strong Earnings Are Of Good Quality

Rentracks CO.,LTD. (TSE:6045) just reported healthy earnings but the stock price didn't move much. Our analysis suggests that investors might be missing some promising details.

Check out our latest analysis for RentracksLTD

Zooming In On RentracksLTD'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). 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.

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. 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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

Over the twelve months to September 2024, RentracksLTD recorded an accrual ratio of -0.16. Therefore, its statutory earnings were very significantly less than its free cashflow. In fact, it had free cash flow of JP¥919m in the last year, which was a lot more than its statutory profit of JP¥596.0m. RentracksLTD shareholders are no doubt pleased that free cash flow improved over the last twelve months.

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

Our Take On RentracksLTD's Profit Performance

As we discussed above, RentracksLTD has perfectly satisfactory free cash flow relative to profit. Based on this observation, we consider it likely that RentracksLTD's statutory profit actually understates its earnings potential! And on top of that, its earnings per share have grown at an extremely impressive rate over the last year. At the end of the day, it's essential to consider more than just the factors above, if you want to understand the company properly. Keep in mind, when it comes to analysing a stock it's worth noting the risks involved. Case in point: We've spotted 2 warning signs for RentracksLTD you should be aware of.

Today we've zoomed in on a single data point to better understand the nature of RentracksLTD's profit. 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. 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.