System ResearchLtd (TSE:3771) Posted Healthy Earnings But There Are Some Other Factors To Be Aware Of

System Research Co.,Ltd. (TSE:3771) just reported some strong earnings, and the market reacted accordingly with a healthy uplift in the share price. We did some analysis and think that investors are missing some details hidden beneath the profit numbers.

We've discovered 2 warning signs about System ResearchLtd. View them for free.

Examining Cashflow Against System ResearchLtd'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. In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that period. 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 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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

System ResearchLtd has an accrual ratio of 0.31 for the year to March 2025. Unfortunately, that means its free cash flow was a lot less than its statutory profit, which makes us doubt the utility of profit as a guide. Indeed, in the last twelve months it reported free cash flow of JP¥862m, which is significantly less than its profit of JP¥2.19b. System ResearchLtd's free cash flow actually declined over the last year, but it may bounce back next year, since free cash flow is often more volatile than accounting profits.

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

Our Take On System ResearchLtd's Profit Performance

System ResearchLtd's accrual ratio for the last twelve months signifies cash conversion is less than ideal, which is a negative when it comes to our view of its earnings. Therefore, it seems possible to us that System ResearchLtd's true underlying earnings power is actually less than its statutory profit. But at least holders can take some solace from the 48% per annum growth in EPS for the last three. 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. Keep in mind, when it comes to analysing a stock it's worth noting the risks involved. To help with this, we've discovered 2 warning signs (1 is a bit concerning!) that you ought to be aware of before buying any shares in System ResearchLtd.

Today we've zoomed in on a single data point to better understand the nature of System ResearchLtd's 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.