CHANGE HoldingsInc's (TSE:3962) Earnings Offer More Than Meets The Eye

CHANGE Holdings,Inc.'s (TSE:3962) recent earnings report didn't offer any surprises, with the shares unchanged over the last week. Our analysis suggests that shareholders might be missing some positive underlying factors in the earnings report.

View our latest analysis for CHANGE HoldingsInc

Examining Cashflow Against CHANGE HoldingsInc'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. The ratio shows us how much a company's profit exceeds its FCF.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. That is not intended to imply we should worry about a positive accrual ratio, but it's worth noting where the accrual ratio is rather high. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".

Over the twelve months to March 2024, CHANGE HoldingsInc recorded an accrual ratio of -0.22. That implies it has very good cash conversion, and that its earnings in the last year actually significantly understate its free cash flow. In fact, it had free cash flow of JP¥9.8b in the last year, which was a lot more than its statutory profit of JP¥4.33b. Notably, CHANGE HoldingsInc had negative free cash flow last year, so the JP¥9.8b it produced this year was a welcome improvement. Having said that, there is more to the story. The accrual ratio is reflecting the impact of unusual items on statutory profit, at least in part.

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

The Impact Of Unusual Items On Profit

CHANGE HoldingsInc's profit was reduced by unusual items worth JP¥2.2b 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. We looked at thousands of listed companies and found that unusual items are very often one-off in nature. And, after all, that's exactly what the accounting terminology implies. Assuming those unusual expenses don't come up again, we'd therefore expect CHANGE HoldingsInc to produce a higher profit next year, all else being equal.

Our Take On CHANGE HoldingsInc's Profit Performance

In conclusion, both CHANGE HoldingsInc's accrual ratio and its unusual items suggest that its statutory earnings are probably reasonably conservative. Based on these factors, we think CHANGE HoldingsInc's underlying earnings potential is as good as, or probably even better, than the statutory profit makes it seem! So while earnings quality is important, it's equally important to consider the risks facing CHANGE HoldingsInc at this point in time. For example, we've discovered 3 warning signs that you should run your eye over to get a better picture of CHANGE HoldingsInc.

After our examination into the nature of CHANGE HoldingsInc's profit, we've come away optimistic for the company. 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. 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.