The market shrugged off the recent earnings report from China Aircraft Leasing Group Holdings Limited (HKG:1848), despite the profit numbers being soft. Our analysis suggests that investors may have noticed some promising signs beyond the statutory profit figures.

See our latest analysis for China Aircraft Leasing Group Holdings

Zooming In On China Aircraft Leasing Group Holdings' 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. This ratio tells us how much of a company's profit is not backed by free cashflow.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. While it's not a problem to have a positive accrual ratio, indicating a certain level of non-cash profits, a high accrual ratio is arguably a bad thing, because it indicates paper profits are not matched by cash flow. 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 June 2022, China Aircraft Leasing Group Holdings recorded an accrual ratio of 0.20. We can therefore deduce that its free cash flow fell well short of covering its statutory profit. Even though it reported a profit of HK$93.0m, a look at free cash flow indicates it actually burnt through HK$8.4b in the last year. Coming off the back of negative free cash flow last year, we imagine some shareholders might wonder if its cash burn of HK$8.4b, this year, indicates high risk. However, that's not all there is to consider. We can see that unusual items have impacted its statutory profit, and therefore the accrual ratio.

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?

Finally, we should also talk about the HK$105m in unusual items that weighed on profit over the year. While deductions due to unusual items are disappointing in the first instance, there is a silver lining. We looked at thousands of listed companies and found that unusual items are very often one-off in nature. And, after all, that's exactly what the accounting terminology implies. In the twelve months to June 2022, China Aircraft Leasing Group Holdings had a big unusual items expense. As a result, we can surmise that the unusual items made its statutory profit significantly weaker than it would otherwise be.

Our Take On China Aircraft Leasing Group Holdings' Profit Performance

In conclusion, China Aircraft Leasing Group Holdings' accrual ratio suggests that its statutory earnings are not backed by cash flow, even though unusual items weighed on profit. Based on these factors, we think that China Aircraft Leasing Group Holdings' profits are a reasonably conservative guide to its underlying profitability. 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 4 warning signs we've spotted with China Aircraft Leasing Group Holdings (including 3 which are a bit concerning).

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 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.