Despite posting some strong earnings, the market for Naipu Mining Machinery Co., Ltd.'s (SZSE:300818) stock hasn't moved much. Our analysis suggests that shareholders have noticed something concerning in the numbers.

Zooming In On Naipu Mining Machinery's Earnings

Many investors haven't heard of the accrual ratio from cashflow, but it is actually a useful measure of how well a company's profit is backed up by free cash flow (FCF) during a given period. To get the accrual ratio we first subtract FCF from profit for a period, and then divide that number by the average operating assets for the period. The ratio shows us how much a company's profit exceeds its FCF.

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.

Over the twelve months to September 2024, Naipu Mining Machinery 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. Over the last year it actually had negative free cash flow of CN¥321m, in contrast to the aforementioned profit of CN¥119.5m. We also note that Naipu Mining Machinery's free cash flow was actually negative last year as well, so we could understand if shareholders were bothered by its outflow of CN¥321m.

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 Naipu Mining Machinery's Profit Performance

As we discussed above, we think Naipu Mining Machinery'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 Naipu Mining Machinery's underlying earnings power is lower than its statutory profit. The good news is that, its earnings per share increased by 52% in the last year. 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. Keep in mind, when it comes to analysing a stock it's worth noting the risks involved. For example, we've found that Naipu Mining Machinery has 3 warning signs (1 is potentially serious!) that deserve your attention before going any further with your analysis.

This note has only looked at a single factor that sheds light on the nature of Naipu Mining Machinery's profit. But there are plenty of other ways to inform your opinion of a company. 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.