The market rallied behind Rongcheer Industrial Technology (Suzhou) Co., Ltd.'s (SZSE:301360) stock, leading do a rise in the share price after its recent weak earnings report. Sometimes, shareholders are willing to ignore soft numbers with the hope that they will improve, but our analysis suggests this is unlikely for Rongcheer Industrial Technology (Suzhou).

Zooming In On Rongcheer Industrial Technology (Suzhou)'s Earnings

In high finance, the key ratio used to measure how well a company converts reported profits into free cash flow (FCF) is the accrual ratio (from cashflow). In plain english, this ratio subtracts FCF from net profit, and divides that number by the company's average operating assets over that period. This ratio tells us how much of a company's profit is not backed by free cashflow.

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 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. 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 March 2024, Rongcheer Industrial Technology (Suzhou) had an accrual ratio of 0.56. Statistically speaking, that's a real negative for future earnings. And indeed, during the period the company didn't produce any free cash flow whatsoever. Even though it reported a profit of CN¥45.7m, a look at free cash flow indicates it actually burnt through CN¥99m in the last year. We saw that FCF was CN¥35m a year ago though, so Rongcheer Industrial Technology (Suzhou) 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 Rongcheer Industrial Technology (Suzhou)'s Profit Performance

As we have made quite clear, we're a bit worried that Rongcheer Industrial Technology (Suzhou) didn't back up the last year's profit with free cashflow. As a result, we think it may well be the case that Rongcheer Industrial Technology (Suzhou)'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. So if you'd like to dive deeper into this stock, it's crucial to consider any risks it's facing. For example, Rongcheer Industrial Technology (Suzhou) has 2 warning signs (and 1 which is concerning) we think you should know about.

This note has only looked at a single factor that sheds light on the nature of Rongcheer Industrial Technology (Suzhou)'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.