Earnings Troubles May Signal Larger Issues for LeTech (TSE:3497) Shareholders

The market wasn't impressed with the soft earnings from LeTech Corporation (TSE:3497) recently. Our analysis has found some reasons to be concerned, beyond the weak headline numbers.

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Zooming In On LeTech'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. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. 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 January 2025, LeTech had an accrual ratio of 0.53. 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. Even though it reported a profit of JP¥1.05b, a look at free cash flow indicates it actually burnt through JP¥9.1b in the last year. It's worth noting that LeTech generated positive FCF of JP¥1.9b a year ago, so at least they've done it in the past. One positive for LeTech 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. As a result, some shareholders may be looking for stronger cash conversion in the current year.

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

Our Take On LeTech's Profit Performance

As we have made quite clear, we're a bit worried that LeTech didn't back up the last year's profit with free cashflow. As a result, we think it may well be the case that LeTech's underlying earnings power is lower than its statutory profit. In further bad news, its earnings per share decreased in the last year. Of course, we've only just scratched the surface when it comes to analysing its earnings; one could also consider margins, forecast growth, and return on investment, among other factors. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. Case in point: We've spotted 3 warning signs for LeTech you should be mindful of and 2 of them are significant.

Today we've zoomed in on a single data point to better understand the nature of LeTech's profit. But there are plenty of other ways to inform your opinion of a company. 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 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.