Some Investors May Be Willing To Look Past CHANG TYPE Industrial's (TWSE:1541) Soft Earnings

The subdued market reaction suggests that CHANG TYPE Industrial Co., Ltd.'s (TWSE:1541) recent earnings didn't contain any surprises. However, we believe that investors should be aware of some underlying factors which may be of concern.

Check out our latest analysis for CHANG TYPE Industrial

Examining Cashflow Against CHANG TYPE Industrial's 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'.

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.

For the year to December 2024, CHANG TYPE Industrial had an accrual ratio of -0.26. 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$660m, well over the NT$83.7m it reported in profit. CHANG TYPE Industrial's free cash flow improved over the last year, which is generally good to see. However, that's not all there is to consider. The accrual ratio is reflecting the impact of unusual items on statutory profit, at least in part.

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Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of CHANG TYPE Industrial.

How Do Unusual Items Influence Profit?

Surprisingly, given CHANG TYPE Industrial's accrual ratio implied strong cash conversion, its paper profit was actually boosted by NT$1.5m in unusual items. We can't deny that higher profits generally leave us optimistic, but we'd prefer it if the profit were to be sustainable. When we analysed the vast majority of listed companies worldwide, we found that significant unusual items are often not repeated. Which is hardly surprising, given the name. CHANG TYPE Industrial had a rather significant contribution from unusual items relative to its profit to December 2024. As a result, we can surmise that the unusual items are making its statutory profit significantly stronger than it would otherwise be.

Our Take On CHANG TYPE Industrial's Profit Performance

In conclusion, CHANG TYPE Industrial's accrual ratio suggests its statutory earnings are of good quality, but on the other hand the profits were boosted by unusual items. Based on these factors, it's hard to tell if CHANG TYPE Industrial's profits are a reasonable reflection of its underlying profitability. Keep in mind, when it comes to analysing a stock it's worth noting the risks involved. When we did our research, we found 4 warning signs for CHANG TYPE Industrial (1 is potentially serious!) that we believe deserve your full attention.

Our examination of CHANG TYPE Industrial 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 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.