Here's Why We Think Jiankun International Berhad's (KLSE:JIANKUN) Statutory Earnings Might Be Conservative

As a general rule, we think profitable companies are less risky than companies that lose money. However, sometimes companies receive a one-off boost (or reduction) to their profit, and it's not always clear whether statutory profits are a good guide, going forward. Today we'll focus on whether this year's statutory profits are a good guide to understanding Jiankun International Berhad (KLSE:JIANKUN).

It's good to see that over the last twelve months Jiankun International Berhad made a profit of RM7.31m on revenue of RM66.2m. The good news is that the company managed to grow its revenue over the last three years, and also move from loss-making to profitable.

See our latest analysis for Jiankun International Berhad

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. Today, we'll discuss Jiankun International Berhad's free cashflow relative to its earnings, and consider what that tells us about the company. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Jiankun International Berhad.

Zooming In On Jiankun International 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. The accrual ratio subtracts the FCF from the profit for a given period, and divides the result by the average operating assets of the company over that time. 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 having an accrual ratio above zero is of little concern, we do think it's worth noting when a company has a relatively high accrual ratio. 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, Jiankun International Berhad recorded an accrual ratio of -0.46. Therefore, its statutory earnings were very significantly less than its free cashflow. Indeed, in the last twelve months it reported free cash flow of RM32m, well over the RM7.31m it reported in profit. Jiankun International Berhad shareholders are no doubt pleased that free cash flow improved over the last twelve months.

Our Take On Jiankun International Berhad's Profit Performance

As we discussed above, Jiankun International Berhad's accrual ratio indicates strong conversion of profit to free cash flow, which is a positive for the company. Because of this, we think Jiankun International Berhad's underlying earnings potential is as good as, or possibly even better, than the statutory profit makes it seem! Furthermore, it has done a great job growing EPS over the last year. At the end of the day, it's essential to consider more than just the factors above, if you want to understand the company properly. So while earnings quality is important, it's equally important to consider the risks facing Jiankun International Berhad at this point in time. While conducting our analysis, we found that Jiankun International Berhad has 1 warning sign and it would be unwise to ignore it.

This note has only looked at a single factor that sheds light on the nature of Jiankun International 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. 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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