The recent earnings posted by Wuxi Holyview Microelectronics Co.,Ltd. (SHSE:603375) were solid, but the stock didn't move as much as we expected. We believe that shareholders have noticed some concerning factors beyond the statutory profit numbers.

A Closer Look At Wuxi Holyview MicroelectronicsLtd'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. 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 having an accrual ratio above zero is of little concern, we do think it's worth noting when a company has a relatively high accrual ratio. 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 December 2023, Wuxi Holyview MicroelectronicsLtd had an accrual ratio of 0.60. As a general rule, that bodes poorly for future profitability. And indeed, during the period the company didn't produce any free cash flow whatsoever. In the last twelve months it actually had negative free cash flow, with an outflow of CN¥103m despite its profit of CN¥194.8m, mentioned above. We saw that FCF was CN¥28m a year ago though, so Wuxi Holyview MicroelectronicsLtd has at least been able to generate positive FCF in the past.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Wuxi Holyview MicroelectronicsLtd.

Our Take On Wuxi Holyview MicroelectronicsLtd's Profit Performance

As we discussed above, we think Wuxi Holyview MicroelectronicsLtd'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 Wuxi Holyview MicroelectronicsLtd's underlying earnings power is lower than its statutory profit. But on the bright side, its earnings per share have grown at an extremely impressive rate over the last three years. 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. So while earnings quality is important, it's equally important to consider the risks facing Wuxi Holyview MicroelectronicsLtd at this point in time. Be aware that Wuxi Holyview MicroelectronicsLtd is showing 3 warning signs in our investment analysis and 1 of those makes us a bit uncomfortable...

Today we've zoomed in on a single data point to better understand the nature of Wuxi Holyview MicroelectronicsLtd'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. 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.