Seng Fong Holdings Berhad's (KLSE:SENFONG) Earnings Are Of Questionable Quality

Seng Fong Holdings Berhad (KLSE:SENFONG) announced strong profits, but the stock was stagnant. Our analysis suggests that shareholders have noticed something concerning in the numbers.

Check out our latest analysis for Seng Fong Holdings Berhad

Zooming In On Seng Fong Holdings Berhad'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.

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. 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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Seng Fong Holdings Berhad has an accrual ratio of 0.48 for the year to March 2024. As a general rule, that bodes poorly for future profitability. And indeed, during the period the company didn't produce any free cash flow whatsoever. Over the last year it actually had negative free cash flow of RM111m, in contrast to the aforementioned profit of RM43.8m. We also note that Seng Fong Holdings Berhad's free cash flow was actually negative last year as well, so we could understand if shareholders were bothered by its outflow of RM111m.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Seng Fong Holdings Berhad.

Our Take On Seng Fong Holdings Berhad's Profit Performance

As we have made quite clear, we're a bit worried that Seng Fong Holdings Berhad didn't back up the last year's profit with free cashflow. For this reason, we think that Seng Fong Holdings Berhad's statutory profits may be a bad guide to its underlying earnings power, and might give investors an overly positive impression of the company. But at least holders can take some solace from the 37% EPS growth in the last year. The goal of this article has been to assess how well we can rely on the statutory earnings to reflect the company's potential, but there is plenty more to consider. If you want to do dive deeper into Seng Fong Holdings Berhad, you'd also look into what risks it is currently facing. For example, we've found that Seng Fong Holdings Berhad has 3 warning signs (2 are concerning!) that deserve your attention before going any further with your analysis.

This note has only looked at a single factor that sheds light on the nature of Seng Fong Holdings Berhad's profit. But there are plenty of other ways to inform your opinion of a company. 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. 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.