Shareholders Will Be Pleased With The Quality of HYOJITO's (TSE:7368) Earnings

The subdued stock price reaction suggests that HYOJITO Co., Ltd.'s (TSE:7368) strong earnings didn't offer any surprises. Our analysis suggests that investors might be missing some promising details.

View our latest analysis for HYOJITO

Zooming In On HYOJITO'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). The accrual ratio subtracts the FCF from the profit for a given period, and divides the result by the average operating assets of the company over that time. 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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

HYOJITO has an accrual ratio of -0.40 for the year to March 2024. That indicates that its free cash flow quite significantly exceeded its statutory profit. In fact, it had free cash flow of JP¥634m in the last year, which was a lot more than its statutory profit of JP¥401.0m. HYOJITO's free cash flow improved over the last year, which is generally good to see. 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 HYOJITO.

How Do Unusual Items Influence Profit?

HYOJITO's profit was reduced by unusual items worth JP¥177m in the last twelve months, and this helped it produce high cash conversion, as reflected by its unusual items. This is what you'd expect to see where a company has a non-cash charge reducing paper profits. It's never great to see unusual items costing the company profits, but on the upside, things might improve sooner rather than later. We looked at thousands of listed companies and found that unusual items are very often one-off in nature. And that's hardly a surprise given these line items are considered unusual. If HYOJITO doesn't see those unusual expenses repeat, then all else being equal we'd expect its profit to increase over the coming year.

Our Take On HYOJITO's Profit Performance

Considering both HYOJITO's accrual ratio and its unusual items, we think its statutory earnings are unlikely to exaggerate the company's underlying earnings power. Based on these factors, we think HYOJITO's underlying earnings potential is as good as, or probably even better, than the statutory profit makes it seem! If you'd like to know more about HYOJITO 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 is potentially serious!) that you ought to be aware of before buying any shares in HYOJITO.

After our examination into the nature of HYOJITO's profit, we've come away optimistic for the company. 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.

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.