There May Be Underlying Issues With The Quality Of AMBITION DX HOLDINGS' (TSE:3300) Earnings

AMBITION DX HOLDINGS Co., Ltd.'s (TSE:3300) robust earnings report didn't manage to move the market for its stock. Our analysis suggests that this might be because shareholders have noticed some concerning underlying factors.

See our latest analysis for AMBITION DX HOLDINGS

A Closer Look At AMBITION DX HOLDINGS' 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. 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. 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".

For the year to June 2024, AMBITION DX HOLDINGS had an accrual ratio of 0.42. As a general rule, that bodes poorly for future profitability. And indeed, during the period the company didn't produce any free cash flow whatsoever. Over the last year it actually had negative free cash flow of JP¥4.3b, in contrast to the aforementioned profit of JP¥1.64b. Coming off the back of negative free cash flow last year, we imagine some shareholders might wonder if its cash burn of JP¥4.3b, this year, indicates high risk.

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

Our Take On AMBITION DX HOLDINGS' Profit Performance

As we have made quite clear, we're a bit worried that AMBITION DX HOLDINGS didn't back up the last year's profit with free cashflow. For this reason, we think that AMBITION DX HOLDINGS' statutory profits may be a bad guide to its underlying earnings power, and might give investors an overly positive impression of the company. But the good news is that its EPS growth over the last three years has been very impressive. 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. If you'd like to know more about AMBITION DX HOLDINGS as a business, it's important to be aware of any risks it's facing. Every company has risks, and we've spotted 5 warning signs for AMBITION DX HOLDINGS (of which 3 are a bit concerning!) you should know about.

This note has only looked at a single factor that sheds light on the nature of AMBITION DX HOLDINGS' 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. 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.