Despite posting some strong earnings, the market for L.K. Technology Holdings Limited's (HKG:558) stock hasn't moved much. We did some digging, and we found some concerning factors in the details.

See our latest analysis for L.K. Technology Holdings

Examining Cashflow Against L.K. Technology 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. 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. 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. 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. 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 March 2022, L.K. Technology Holdings had an accrual ratio of 0.31. Therefore, we know that it's free cashflow was significantly lower than its statutory profit, raising questions about how useful that profit figure really is. Even though it reported a profit of HK$625.5m, a look at free cash flow indicates it actually burnt through HK$487m in the last year. It's worth noting that L.K. Technology Holdings generated positive FCF of HK$483m a year ago, so at least they've done it in the past. The good news for shareholders is that L.K. Technology Holdings' accrual ratio was much better last year, so this year's poor reading might simply be a case of a short term mismatch between profit and FCF. Shareholders should look for improved cashflow relative to profit in the current year, if that is indeed the case.

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 L.K. Technology Holdings' Profit Performance

L.K. Technology Holdings didn't convert much of its profit to free cash flow in the last year, which some investors may consider rather suboptimal. Because of this, we think that it may be that L.K. Technology Holdings' statutory profits are better than its underlying earnings power. But on the bright side, its earnings per share have grown at an extremely impressive rate over the last three years. At the end of the day, it's essential to consider more than just the factors above, if you want to understand the company properly. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. For example, L.K. Technology Holdings has 2 warning signs (and 1 which is significant) we think you should know about.

This note has only looked at a single factor that sheds light on the nature of L.K. Technology Holdings' profit. 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.