China Fineblanking TechnologyLtd (GTSM:1586) Is Growing Earnings But Are They A Good Guide?

It might be old fashioned, but we really like to invest in companies that make a profit, each and every year. 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. In this article, we'll look at how useful this year's statutory profit is, when analysing China Fineblanking TechnologyLtd (GTSM:1586).

While China Fineblanking TechnologyLtd was able to generate revenue of NT$2.23b in the last twelve months, we think its profit result of NT$114.7m was more important. In the chart below, you can see that its profit and revenue have both grown over the last three years.

See our latest analysis for China Fineblanking TechnologyLtd

Not all profits are equal, and we can learn more about the nature of a company's past profitability by diving deeper into the financial statements. As a result, we think it's well worth considering what China Fineblanking TechnologyLtd's cashflow (when compared to its earnings) can tell us about the nature of its statutory profit. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of China Fineblanking TechnologyLtd.

A Closer Look At China Fineblanking TechnologyLtd's Earnings

As finance nerds would already know, the accrual ratio from cashflow is a key measure for assessing how well a company's free cash flow (FCF) matches its profit. 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.

That means a negative accrual ratio is a good thing, because it shows that the company is bringing in more free cash flow than its profit would suggest. 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.

China Fineblanking TechnologyLtd has an accrual ratio of 0.23 for the year to September 2020. Unfortunately, that means its free cash flow fell significantly short of its reported profits. In the last twelve months it actually had negative free cash flow, with an outflow of NT$448m despite its profit of NT$114.7m, mentioned above. We also note that China Fineblanking TechnologyLtd's free cash flow was actually negative last year as well, so we could understand if shareholders were bothered by its outflow of NT$448m.

Our Take On China Fineblanking TechnologyLtd's Profit Performance

China Fineblanking TechnologyLtd'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 China Fineblanking TechnologyLtd'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. 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. If you want to do dive deeper into China Fineblanking TechnologyLtd, you'd also look into what risks it is currently facing. For example - China Fineblanking TechnologyLtd has 2 warning signs we think you should be aware of.

Today we've zoomed in on a single data point to better understand the nature of China Fineblanking TechnologyLtd's profit. 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. 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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