Impressive Earnings May Not Tell The Whole Story For Ai Holdings (TSE:3076)

Ai Holdings Corporation's (TSE:3076) stock was strong after they recently reported robust earnings. We did some analysis and think that investors are missing some details hidden beneath the profit numbers.

See our latest analysis for Ai Holdings

Zooming In On Ai Holdings' 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".

For the year to June 2024, Ai Holdings had an accrual ratio of 0.26. Therefore, we know that it's free cashflow was significantly lower than its statutory profit, which is hardly a good thing. In fact, it had free cash flow of JP¥6.2b in the last year, which was a lot less than its statutory profit of JP¥15.7b. We note, however, that Ai Holdings grew its free cash flow over the last year. 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.

That might leave you wondering what analysts are forecasting in terms of future profitability. Luckily, you can click here to see an interactive graph depicting future profitability, based on their estimates.

The Impact Of Unusual Items On Profit

Unfortunately (in the short term) Ai Holdings saw its profit reduced by unusual items worth JP¥1.3b. In the case where this was a non-cash charge it would have made it easier to have high cash conversion, so it's surprising that the accrual ratio tells a different story. While deductions due to unusual items are disappointing in the first instance, there is a silver lining. We looked at thousands of listed companies and found that unusual items are very often one-off in nature. And that's hardly a surprise given these line items are considered unusual. If Ai Holdings doesn't see those unusual expenses repeat, then all else being equal we'd expect its profit to increase over the coming year.

Our Take On Ai Holdings' Profit Performance

Ai Holdings saw unusual items weigh on its profit, which should have made it easier to show high cash conversion, which it did not do, according to its accrual ratio. Based on these factors, we think it's very unlikely that Ai Holdings' statutory profits make it seem much weaker than it is. 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 2 warning signs for Ai Holdings and we think they deserve your attention.

In this article we've looked at a number of factors that can impair the utility of profit numbers, as a guide to a business. 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.