Investors Can Find Comfort In JADE GROUPInc's (TSE:3558) Earnings Quality

Soft earnings didn't appear to concern JADE GROUP,Inc's (TSE:3558) shareholders over the last week. We think that the softer headline numbers might be getting counterbalanced by some positive underlying factors.

Our free stock report includes 4 warning signs investors should be aware of before investing in JADE GROUPInc. Read for free now.

Zooming In On JADE GROUPInc'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.

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. While it's not a problem to have a positive accrual ratio, indicating a certain level of non-cash profits, a high accrual ratio is arguably a bad thing, because it indicates paper profits are not matched by cash flow. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".

JADE GROUPInc has an accrual ratio of -0.40 for the year to February 2025. That indicates that its free cash flow quite significantly exceeded its statutory profit. In fact, it had free cash flow of JP¥2.7b in the last year, which was a lot more than its statutory profit of JP¥509.0m. JADE GROUPInc's free cash flow improved over the last year, which is generally good to see. However, that's not all there is to consider. The accrual ratio is reflecting the impact of unusual items on statutory profit, at least in part.

See our latest analysis for JADE GROUPInc

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

How Do Unusual Items Influence Profit?

JADE GROUPInc's profit was reduced by unusual items worth JP¥470m in the last twelve months, and this helped it produce high cash conversion, as reflected by its unusual items. In a scenario where those unusual items included non-cash charges, we'd expect to see a strong accrual ratio, which is exactly what has happened in this case. It's never great to see unusual items costing the company profits, but on the upside, things might improve sooner rather than later. When we analysed the vast majority of listed companies worldwide, we found that significant unusual items are often not repeated. And that's hardly a surprise given these line items are considered unusual. Assuming those unusual expenses don't come up again, we'd therefore expect JADE GROUPInc to produce a higher profit next year, all else being equal.

Our Take On JADE GROUPInc's Profit Performance

Considering both JADE GROUPInc's accrual ratio and its unusual items, we think its statutory earnings are unlikely to exaggerate the company's underlying earnings power. After considering all this, we reckon JADE GROUPInc's statutory profit probably understates its earnings potential! So if you'd like to dive deeper into this stock, it's crucial to consider any risks it's facing. At Simply Wall St, we found 4 warning signs for JADE GROUPInc and we think they deserve your attention.

Our examination of JADE GROUPInc has focussed on certain factors that can make its earnings look better than they are. And it has passed with flying colours. 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.

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.