Fortune Electric's (TWSE:1519) Earnings Are Weaker Than They Seem

Last week's profit announcement from Fortune Electric Co., Ltd. (TWSE:1519) was underwhelming for investors, despite headline numbers being robust. We think that the market might be paying attention to some underlying factors that they find to be concerning.

See our latest analysis for Fortune Electric

A Closer Look At Fortune Electric'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). 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. 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. 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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

Over the twelve months to December 2024, Fortune Electric recorded an accrual ratio of 0.25. We can therefore deduce that its free cash flow fell well short of covering its statutory profit. Indeed, in the last twelve months it reported free cash flow of NT$2.9b, which is significantly less than its profit of NT$4.29b. Fortune Electric's free cash flow actually declined over the last year, but it may bounce back next year, since free cash flow is often more volatile than accounting profits. One positive for Fortune Electric 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. As a result, some shareholders may be looking for stronger cash conversion in the current year.

That might leave you wondering what analysts are forecasting in terms of future profitability. Luckily, you can click here to see an interactive graph depicting future profitability, based on their estimates.

Our Take On Fortune Electric's Profit Performance

Fortune Electric didn't convert much of its profit to free cash flow in the last year, which some investors may consider rather suboptimal. Because of this, we think that it may be that Fortune Electric's statutory profits are better than its underlying earnings power. But on the bright side, its earnings per share have grown at an extremely impressive rate over the last three years. 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 Fortune Electric, you'd also look into what risks it is currently facing. For example, we've found that Fortune Electric has 2 warning signs (1 can't be ignored!) 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 Fortune Electric'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. 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 with significant insider holdings 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.