A lackluster earnings announcement from Anhui Xinhua Media Co., Ltd. (SHSE:601801) last week didn't sink the stock price. Our analysis suggests that along with soft profit numbers, investors should be aware of some other underlying weaknesses in the numbers.

A Closer Look At Anhui Xinhua Media'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. The ratio shows us how much a company's profit exceeds its FCF.

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. 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 September 2024, Anhui Xinhua Media recorded an accrual ratio of 0.33. We can therefore deduce that its free cash flow fell well short of covering its statutory profit, suggesting we might want to think twice before putting a lot of weight on the latter. Even though it reported a profit of CN¥764.2m, a look at free cash flow indicates it actually burnt through CN¥32m in the last year. We saw that FCF was CN¥1.4b a year ago though, so Anhui Xinhua Media has at least been able to generate positive FCF in the past. One positive for Anhui Xinhua Media shareholders is that it's accrual ratio was significantly better last year, providing reason to believe that it may return to stronger cash conversion in the future. As a result, some shareholders may be looking for stronger cash conversion in the current year.

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 Anhui Xinhua Media's Profit Performance

As we have made quite clear, we're a bit worried that Anhui Xinhua Media didn't back up the last year's profit with free cashflow. As a result, we think it may well be the case that Anhui Xinhua Media's underlying earnings power is lower than its statutory profit. But at least holders can take some solace from the 7.4% per annum growth in EPS for the last three. 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. So while earnings quality is important, it's equally important to consider the risks facing Anhui Xinhua Media at this point in time. Every company has risks, and we've spotted 2 warning signs for Anhui Xinhua Media (of which 1 shouldn't be ignored!) you should know about.

Today we've zoomed in on a single data point to better understand the nature of Anhui Xinhua Media's profit. But there is always more to discover if you are capable of focussing your mind on minutiae. Some people consider a high return on equity to be a good sign of a quality business. So you may wish to see this free collection of companies boasting high return on equity, or this list of stocks with high insider ownership.

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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.