The market for Hainan Poly Pharm. Co.,Ltd's (SZSE:300630) stock was strong after it released a healthy earnings report last week. However, we think that shareholders should be cautious as we found some worrying factors underlying the profit.

See our latest analysis for Hainan Poly Pharm.Ltd

Examining Cashflow Against Hainan Poly Pharm.Ltd'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. The accrual ratio subtracts the FCF from the profit for a given period, and divides the result by the average operating assets of the company over that time. The ratio shows us how much a company's profit exceeds its FCF.

Therefore, it's actually considered a good thing when a company has a negative accrual ratio, but a bad thing if its accrual ratio is positive. 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. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".

Over the twelve months to March 2022, Hainan Poly Pharm.Ltd recorded an accrual ratio of 0.37. Statistically speaking, that's a real negative for future earnings. To wit, the company did not generate one whit of free cashflow in that time. In the last twelve months it actually had negative free cash flow, with an outflow of CN¥689m despite its profit of CN¥457.1m, mentioned above. We also note that Hainan Poly Pharm.Ltd's free cash flow was actually negative last year as well, so we could understand if shareholders were bothered by its outflow of CN¥689m.

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.

Our Take On Hainan Poly Pharm.Ltd's Profit Performance

As we discussed above, we think Hainan Poly Pharm.Ltd's earnings were not supported by free cash flow, which might concern some investors. As a result, we think it may well be the case that Hainan Poly Pharm.Ltd's underlying earnings power is lower than its statutory profit. But the good news is that its EPS growth over the last three years has been very impressive. The goal of this article has been to assess how well we can rely on the statutory earnings to reflect the company's potential, but there is plenty more to consider. If you'd like to know more about Hainan Poly Pharm.Ltd as a business, it's important to be aware of any risks it's facing. For example, Hainan Poly Pharm.Ltd has 3 warning signs (and 1 which is a bit concerning) we think you should know about.

This note has only looked at a single factor that sheds light on the nature of Hainan Poly Pharm.Ltd's profit. But there are plenty of other ways to inform your opinion of a company. 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. 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.