Investors Shouldn't Be Too Comfortable With HunesionLtd's (KOSDAQ:290270) Earnings

Despite posting some strong earnings, the market for Hunesion Co.,Ltd's (KOSDAQ:290270) stock hasn't moved much. We did some digging, and we found some concerning factors in the details.

See our latest analysis for HunesionLtd

Zooming In On HunesionLtd's Earnings

In high finance, the key ratio used to measure how well a company converts reported profits into free cash flow (FCF) is the accrual ratio (from cashflow). 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.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. 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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

For the year to December 2023, HunesionLtd had an accrual ratio of 0.24. 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 ₩872m in the last year, which was a lot less than its statutory profit of ₩6.74b. At this point we should mention that HunesionLtd did manage to increase its free cash flow in the last twelve months However, that's not all there is to consider. We can see that unusual items have impacted its statutory profit, and therefore the accrual ratio. One positive for HunesionLtd shareholders is that it's accrual ratio was significantly better last year, providing reason to believe that it may return to stronger cash conversion in the future. Shareholders should look for improved cashflow relative to profit in the current year, if that is indeed the case.

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

How Do Unusual Items Influence Profit?

Given the accrual ratio, it's not overly surprising that HunesionLtd's profit was boosted by unusual items worth ₩392m in the last twelve months. While we like to see profit increases, we tend to be a little more cautious when unusual items have made a big contribution. When we crunched the numbers on thousands of publicly listed companies, we found that a boost from unusual items in a given year is often not repeated the next year. And that's as you'd expect, given these boosts are described as 'unusual'. If HunesionLtd doesn't see that contribution repeat, then all else being equal we'd expect its profit to drop over the current year.

Our Take On HunesionLtd's Profit Performance

Summing up, HunesionLtd received a nice boost to profit from unusual items, but could not match its paper profit with free cash flow. Considering all this we'd argue HunesionLtd's profits probably give an overly generous impression of its sustainable level of profitability. So if you'd like to dive deeper into this stock, it's crucial to consider any risks it's facing. For instance, we've identified 2 warning signs for HunesionLtd (1 is concerning) you should be familiar with.

Our examination of HunesionLtd has focussed on certain factors that can make its earnings look better than they are. And, on that basis, we are somewhat skeptical. 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 that insiders are buying 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.