Despite posting some strong earnings, the market for SAN BIAN SCIENCE& TECHNOLOGY Co., LTD.'s (SZSE:002112) stock hasn't moved much. We did some digging, and we found some concerning factors in the details.

Examining Cashflow Against SAN BIAN SCIENCE& TECHNOLOGY's Earnings

One key financial ratio used to measure how well a company converts its profit to free cash flow (FCF) is the accrual ratio. In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that period. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

That means a negative accrual ratio is a good thing, because it shows that the company is bringing in more free cash flow than its profit would suggest. While it's not a problem to have a positive accrual ratio, indicating a certain level of non-cash profits, a high accrual ratio is arguably a bad thing, because it indicates paper profits are not matched by cash flow. Notably, there is some academic evidence that suggests that a high accrual ratio is a bad sign for near-term profits, generally speaking.

For the year to December 2023, SAN BIAN SCIENCE& TECHNOLOGY had an accrual ratio of 0.28. Unfortunately, that means its free cash flow was a lot less than its statutory profit, which makes us doubt the utility of profit as a guide. Over the last year it actually had negative free cash flow of CN¥205m, in contrast to the aforementioned profit of CN¥89.4m. Coming off the back of negative free cash flow last year, we imagine some shareholders might wonder if its cash burn of CN¥205m, this year, indicates high risk.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of SAN BIAN SCIENCE& TECHNOLOGY.

Our Take On SAN BIAN SCIENCE& TECHNOLOGY's Profit Performance

SAN BIAN SCIENCE& TECHNOLOGY's accrual ratio for the last twelve months signifies cash conversion is less than ideal, which is a negative when it comes to our view of its earnings. Because of this, we think that it may be that SAN BIAN SCIENCE& TECHNOLOGY's 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. 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. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. Every company has risks, and we've spotted 2 warning signs for SAN BIAN SCIENCE& TECHNOLOGY you should know about.

Today we've zoomed in on a single data point to better understand the nature of SAN BIAN SCIENCE& TECHNOLOGY'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.