Should You Use Paiho Shih Holdings's (TPE:8404) Statutory Earnings To Analyse It?

It might be old fashioned, but we really like to invest in companies that make a profit, each and every year. 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. This article will consider whether Paiho Shih Holdings' (TPE:8404) statutory profits are a good guide to its underlying earnings.

It's good to see that over the last twelve months Paiho Shih Holdings made a profit of NT$451.2m on revenue of NT$6.58b. As you can see in the chart below, its profit has declined over the last three years, even though its revenue has increased.

Check out our latest analysis for Paiho Shih Holdings

Of course, it is only sensible to look beyond the statutory profits and question how well those numbers represent the sustainable earnings power of the business. So today we'll look at what Paiho Shih Holdings' cashflow tells us about the quality of its earnings. 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.

Zooming In On Paiho Shih Holdings' 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. 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. 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 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, Paiho Shih Holdings recorded an accrual ratio of -0.14. That indicates that its free cash flow quite significantly exceeded its statutory profit. In fact, it had free cash flow of NT$1.8b in the last year, which was a lot more than its statutory profit of NT$451.2m. Given that Paiho Shih Holdings had negative free cash flow in the prior corresponding period, the trailing twelve month resul of NT$1.8b would seem to be a step in the right direction.

Our Take On Paiho Shih Holdings' Profit Performance

As we discussed above, Paiho Shih Holdings has perfectly satisfactory free cash flow relative to profit. Because of this, we think Paiho Shih Holdings' earnings potential is at least as good as it seems, and maybe even better! 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. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. To help with this, we've discovered 2 warning signs (1 is potentially serious!) that you ought to be aware of before buying any shares in Paiho Shih Holdings.

This note has only looked at a single factor that sheds light on the nature of Paiho Shih Holdings' 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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