There May Be Some Bright Spots In Big Sun Shine's (TWSE:1475) Earnings

The latest earnings report from Big Sun Shine CO., LTD. (TWSE:1475 ) disappointed investors. We did some digging and believe that things are better than they seem due to some encouraging factors.

See our latest analysis for Big Sun Shine

A Closer Look At Big Sun Shine'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). 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. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. 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. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

Over the twelve months to December 2023, Big Sun Shine recorded an accrual ratio of -0.22. That indicates that its free cash flow quite significantly exceeded its statutory profit. Indeed, in the last twelve months it reported free cash flow of NT$318m, well over the NT$277.9m it reported in profit. Big Sun Shine's free cash flow improved over the last year, which is generally good to see. Notably, the company has issued new shares, thus diluting existing shareholders and reducing their share of future earnings.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Big Sun Shine.

One essential aspect of assessing earnings quality is to look at how much a company is diluting shareholders. In fact, Big Sun Shine increased the number of shares on issue by 77% over the last twelve months by issuing new shares. As a result, its net income is now split between a greater number of shares. Per share metrics like EPS help us understand how much actual shareholders are benefitting from the company's profits, while the net income level gives us a better view of the company's absolute size. Check out Big Sun Shine's historical EPS growth by clicking on this link.

A Look At The Impact Of Big Sun Shine's Dilution On Its Earnings Per Share (EPS)

Big Sun Shine has improved its profit over the last three years, with an annualized gain of 7,453% in that time. In comparison, earnings per share only gained 3,339% over the same period. Net profit actually dropped by 9.6% in the last year. Unfortunately for shareholders, though, the earnings per share result was even worse, declining 33%. Therefore, one can observe that the dilution is having a fairly profound effect on shareholder returns.

In the long term, if Big Sun Shine's earnings per share can increase, then the share price should too. However, if its profit increases while its earnings per share stay flat (or even fall) then shareholders might not see much benefit. For the ordinary retail shareholder, EPS is a great measure to check your hypothetical "share" of the company's profit.

Our Take On Big Sun Shine's Profit Performance

In conclusion, Big Sun Shine has a strong cashflow relative to earnings, which indicates good quality earnings, but the dilution means its earnings per share are dropping faster than its profit. Given the contrasting considerations, we don't have a strong view as to whether Big Sun Shine's profits are an apt reflection of its underlying potential for profit. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. To that end, you should learn about the 2 warning signs we've spotted with Big Sun Shine (including 1 which can't be ignored).

Our examination of Big Sun Shine has focussed on certain factors that can make its earnings look better than they are. But there are plenty of other ways to inform your opinion of a company. 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 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.