We Think You Can Look Beyond Zenitron's (TWSE:3028) Lackluster Earnings

The market for Zenitron Corporation's (TWSE:3028) shares didn't move much after it posted weak earnings recently. We did some digging, and we believe the earnings are stronger than they seem.

See our latest analysis for Zenitron

A Closer Look At Zenitron's Earnings

As finance nerds would already know, the accrual ratio from cashflow is a key measure for assessing how well a company's free cash flow (FCF) matches its profit. In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that period. 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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

Zenitron has an accrual ratio of -0.17 for the year to December 2023. Therefore, its statutory earnings were very significantly less than its free cashflow. To wit, it produced free cash flow of NT$3.0b during the period, dwarfing its reported profit of NT$456.0m. Notably, Zenitron had negative free cash flow last year, so the NT$3.0b it produced this year was a welcome improvement. Unfortunately for shareholders, the company has also been issuing new shares, diluting 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 Zenitron.

One essential aspect of assessing earnings quality is to look at how much a company is diluting shareholders. Zenitron expanded the number of shares on issue by 6.5% over the last year. Therefore, each share now receives a smaller portion of profit. 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. You can see a chart of Zenitron's EPS by clicking here.

How Is Dilution Impacting Zenitron's Earnings Per Share (EPS)?

Zenitron's net profit dropped by 3.4% per year over the last three years. And even focusing only on the last twelve months, we see profit is down 36%. Like a sack of potatoes thrown from a delivery truck, EPS fell harder, down 38% in the same period. So you can see that the dilution has had a bit of an impact on shareholders.

In the long term, if Zenitron'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 Zenitron's Profit Performance

In conclusion, Zenitron 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. Considering all the aforementioned, we'd venture that Zenitron's profit result is a pretty good guide to its true profitability, albeit a bit on the conservative side. Keep in mind, when it comes to analysing a stock it's worth noting the risks involved. Case in point: We've spotted 3 warning signs for Zenitron you should be mindful of and 1 of these bad boys can't be ignored.

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. 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. 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.