Shareholders were pleased with the recent earnings report from Anhui Sentai WPC Group Share Co., Ltd. (SZSE:301429). Despite this, we feel that there are some reasons to be cautious with these earnings.

A Closer Look At Anhui Sentai WPC Group Share'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.

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. 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".

For the year to September 2024, Anhui Sentai WPC Group Share had an accrual ratio of 0.52. 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. Over the last year it actually had negative free cash flow of CN¥290m, in contrast to the aforementioned profit of CN¥65.5m. Coming off the back of negative free cash flow last year, we imagine some shareholders might wonder if its cash burn of CN¥290m, this year, indicates high risk. Having said that, there is more to the story. We can see that unusual items have impacted its statutory profit, and therefore the accrual ratio.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Anhui Sentai WPC Group Share.

The Impact Of Unusual Items On Profit

Given the accrual ratio, it's not overly surprising that Anhui Sentai WPC Group Share's profit was boosted by unusual items worth CN¥23m in the last twelve months. While we like to see profit increases, we tend to be a little more cautious when unusual items have made a big contribution. We ran the numbers on most publicly listed companies worldwide, and it's very common for unusual items to be once-off in nature. Which is hardly surprising, given the name. Anhui Sentai WPC Group Share had a rather significant contribution from unusual items relative to its profit to September 2024. As a result, we can surmise that the unusual items are making its statutory profit significantly stronger than it would otherwise be.

Our Take On Anhui Sentai WPC Group Share's Profit Performance

Summing up, Anhui Sentai WPC Group Share received a nice boost to profit from unusual items, but could not match its paper profit with free cash flow. On reflection, the above-mentioned factors give us the strong impression that Anhui Sentai WPC Group Share'sunderlying earnings power is not as good as it might seem, based on the statutory profit numbers. If you want to do dive deeper into Anhui Sentai WPC Group Share, you'd also look into what risks it is currently facing. Every company has risks, and we've spotted 3 warning signs for Anhui Sentai WPC Group Share (of which 2 are a bit unpleasant!) you should know about.

In this article we've looked at a number of factors that can impair the utility of profit numbers, and we've come away cautious. 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. 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 with significant insider holdings 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.