Statutory Profit Doesn't Reflect How Good Happinet's (TSE:7552) Earnings Are

The subdued stock price reaction suggests that Happinet Corporation's (TSE:7552) strong earnings didn't offer any surprises. We think that investors have missed some encouraging factors underlying the profit figures.

See our latest analysis for Happinet

Zooming In On Happinet's Earnings

As finance nerds would already know, the accrual ratio from cashflow is a key measure for assessing how well a company's free cash flow (FCF) matches its profit. 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. The ratio shows us how much a company's profit exceeds its FCF.

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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Happinet has an accrual ratio of -0.20 for the year to September 2024. That implies it has very good cash conversion, and that its earnings in the last year actually significantly understate its free cash flow. Indeed, in the last twelve months it reported free cash flow of JP¥11b, well over the JP¥6.84b it reported in profit. Happinet's free cash flow improved over the last year, which is generally good to see.

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

Our Take On Happinet's Profit Performance

Happily for shareholders, Happinet produced plenty of free cash flow to back up its statutory profit numbers. Based on this observation, we consider it possible that Happinet's statutory profit actually understates its earnings potential! Better yet, its EPS are growing strongly, which is nice to see. 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. If you want to do dive deeper into Happinet, you'd also look into what risks it is currently facing. While conducting our analysis, we found that Happinet has 1 warning sign and it would be unwise to ignore it.

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