Chicony Electronics (TWSE:2385) Is Posting Promising Earnings But The Good News Doesn’t Stop There

Despite posting healthy earnings, Chicony Electronics Co., Ltd.'s (TWSE:2385 ) stock has been quite weak. Along with the solid headline numbers, we think that investors have some reasons for optimism.

See our latest analysis for Chicony Electronics

Zooming In On Chicony Electronics' 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). In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that period. The ratio shows us how much a company's profit exceeds its FCF.

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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

For the year to December 2023, Chicony Electronics had an accrual ratio of -0.31. That implies it has very good cash conversion, and that its earnings in the last year actually significantly understate its free cash flow. In fact, it had free cash flow of NT$16b in the last year, which was a lot more than its statutory profit of NT$7.46b. Chicony Electronics' 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.

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.

How Do Unusual Items Influence Profit?

Surprisingly, given Chicony Electronics' accrual ratio implied strong cash conversion, its paper profit was actually boosted by NT$820m in unusual items. While we like to see profit increases, we tend to be a little more cautious when unusual items have made a big contribution. When we analysed the vast majority of listed companies worldwide, we found that significant unusual items are often not repeated. And, after all, that's exactly what the accounting terminology implies. If Chicony Electronics doesn't see that contribution repeat, then all else being equal we'd expect its profit to drop over the current year.

Our Take On Chicony Electronics' Profit Performance

Chicony Electronics' profits got a boost from unusual items, which indicates they might not be sustained and yet its accrual ratio still indicated solid cash conversion, which is promising. Based on these factors, we think that Chicony Electronics' profits are a reasonably conservative guide to its underlying profitability. If you want to do dive deeper into Chicony Electronics, you'd also look into what risks it is currently facing. At Simply Wall St, we found 1 warning sign for Chicony Electronics and we think they deserve your attention.

In this article we've looked at a number of factors that can impair the utility of profit numbers, as a guide to a business. 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 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.