Should You Rely On SHINSEGAE Information & Communication's (KRX:035510) Earnings Growth?

As a general rule, we think profitable companies are less risky than companies that lose money. Having said that, sometimes statutory profit levels are not a good guide to ongoing profitability, because some short term one-off factor has impacted profit levels. Today we'll focus on whether this year's statutory profits are a good guide to understanding SHINSEGAE Information & Communication (KRX:035510).

While SHINSEGAE Information & Communication was able to generate revenue of ₩473.4b in the last twelve months, we think its profit result of ₩64.5b was more important. In the chart below, you can see that its profit and revenue have both grown over the last three years.

View our latest analysis for SHINSEGAE Information & Communication

Of course, when it comes to statutory profit, the devil is often in the detail, and we can get a better sense for a company by diving deeper into the financial statements. So today we'll look at what SHINSEGAE Information & Communication's cashflow tells us about the quality of its earnings. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of SHINSEGAE Information & Communication.

Examining Cashflow Against SHINSEGAE Information & Communication's Earnings

Many investors haven't heard of the accrual ratio from cashflow, but it is actually a useful measure of how well a company's profit is backed up by free cash flow (FCF) during a given period. In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that period. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

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".

Over the twelve months to September 2020, SHINSEGAE Information & Communication recorded an accrual ratio of 0.28. Unfortunately, that means its free cash flow fell significantly short of its reported profits. To wit, it produced free cash flow of ₩25b during the period, falling well short of its reported profit of ₩64.5b. Given that SHINSEGAE Information & Communication had negative free cash flow in the prior corresponding period, the trailing twelve month resul of ₩25b would seem to be a step in the right direction.

Our Take On SHINSEGAE Information & Communication's Profit Performance

SHINSEGAE Information & Communication'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. Because of this, we think that it may be that SHINSEGAE Information & Communication's statutory profits are better than its underlying earnings power. But the good news is that its EPS growth over the last three years has been very impressive. 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. So if you'd like to dive deeper into this stock, it's crucial to consider any risks it's facing. Case in point: We've spotted 1 warning sign for SHINSEGAE Information & Communication you should be aware of.

This note has only looked at a single factor that sheds light on the nature of SHINSEGAE Information & Communication's profit. But there is always more to discover if you are capable of focussing your mind on minutiae. For example, many people consider a high return on equity as an indication of favorable business economics, while others like to 'follow the money' and search out stocks that insiders are buying. So you may wish to see this free collection of companies boasting high return on equity, or this list of stocks that insiders are buying.

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This article by Simply Wall St is general in nature. 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.
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