The market rallied behind Shandong Haihua Co.,Ltd's (SZSE:000822) stock, leading do a rise in the share price after its recent weak earnings report. We think that shareholders might be missing some concerning factors that our analysis found.
Zooming In On Shandong HaihuaLtd's Earnings
Many investors haven't heard of the accrual ratio from cashflow, but it is actually a useful measure of how well a company's profit is backed up by free cash flow (FCF) during a given period. To get the accrual ratio we first subtract FCF from profit for a period, and then divide that number by the average operating assets for the 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. 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.
Shandong HaihuaLtd has an accrual ratio of 0.44 for the year to December 2023. 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. Even though it reported a profit of CN¥1.04b, a look at free cash flow indicates it actually burnt through CN¥519m in the last year. We saw that FCF was CN¥907m a year ago though, so Shandong HaihuaLtd has at least been able to generate positive FCF in the past.
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 Shandong HaihuaLtd's Profit Performance
As we discussed above, we think Shandong HaihuaLtd'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 Shandong HaihuaLtd's underlying earnings power is lower than its statutory profit. In further bad news, its earnings per share decreased in the last year. Of course, we've only just scratched the surface when it comes to analysing its earnings; one could also consider margins, forecast growth, and return on investment, among other factors. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. For example, we've found that Shandong HaihuaLtd has 2 warning signs (1 is concerning!) that deserve your attention before going any further with your analysis.
Today we've zoomed in on a single data point to better understand the nature of Shandong HaihuaLtd'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.