Tsann Kuen EnterpriseLtd's (TWSE:2430) Conservative Accounting Might Explain Soft Earnings

Shareholders appeared unconcerned with Tsann Kuen Enterprise Co.,Ltd's (TWSE:2430) lackluster earnings report last week. We did some digging, and we believe the earnings are stronger than they seem.

See our latest analysis for Tsann Kuen EnterpriseLtd

A Closer Look At Tsann Kuen EnterpriseLtd'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. This ratio tells us how much of a company's profit is not backed by free cashflow.

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. 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".

For the year to September 2024, Tsann Kuen EnterpriseLtd had an accrual ratio of -0.37. 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$1.2b, well over the NT$184.5m it reported in profit. Tsann Kuen EnterpriseLtd's free cash flow actually declined over the last year, which is disappointing, like non-biodegradable balloons.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Tsann Kuen EnterpriseLtd.

Our Take On Tsann Kuen EnterpriseLtd's Profit Performance

Happily for shareholders, Tsann Kuen EnterpriseLtd produced plenty of free cash flow to back up its statutory profit numbers. Because of this, we think Tsann Kuen EnterpriseLtd's underlying earnings potential is as good as, or possibly even better, than the statutory profit makes it seem! On the other hand, its EPS actually shrunk in the last twelve months. 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. In light of this, if you'd like to do more analysis on the company, it's vital to be informed of the risks involved. In terms of investment risks, we've identified 2 warning signs with Tsann Kuen EnterpriseLtd, and understanding them should be part of your investment process.

This note has only looked at a single factor that sheds light on the nature of Tsann Kuen EnterpriseLtd'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.