The recent earnings posted by Shenzhen JT Automation Equipment Co.,Ltd (SZSE:300400) were solid, but the stock didn't move as much as we expected. However the statutory profit number doesn't tell the whole story, and we have found some factors which might be of concern to shareholders.

Examining Cashflow Against Shenzhen JT Automation EquipmentLtd'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. The ratio shows us how much a company's profit exceeds its FCF.

Therefore, it's actually considered a good thing when a company has a negative accrual ratio, but a bad thing if its accrual ratio is positive. 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. 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, Shenzhen JT Automation EquipmentLtd recorded an accrual ratio of -0.11. That indicates that its free cash flow was a fair bit more than its statutory profit. In fact, it had free cash flow of CN¥111m in the last year, which was a lot more than its statutory profit of CN¥61.2m. Shenzhen JT Automation EquipmentLtd's free cash flow actually declined over the last year, which is disappointing, like non-biodegradable balloons. 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 Shenzhen JT Automation EquipmentLtd.

The Impact Of Unusual Items On Profit

Surprisingly, given Shenzhen JT Automation EquipmentLtd's accrual ratio implied strong cash conversion, its paper profit was actually boosted by CN¥12m in unusual items. We can't deny that higher profits generally leave us optimistic, but we'd prefer it if the profit were to be sustainable. We ran the numbers on most publicly listed companies worldwide, and it's very common for unusual items to be once-off in nature. And that's as you'd expect, given these boosts are described as 'unusual'. If Shenzhen JT Automation EquipmentLtd doesn't see that contribution repeat, then all else being equal we'd expect its profit to drop over the current year.

Our Take On Shenzhen JT Automation EquipmentLtd's Profit Performance

Shenzhen JT Automation EquipmentLtd's profits got a boost from unusual items, which indicates they might not be sustained and yet its accrual ratio still indicated solid cash conversion, which is promising. Based on these factors, we think it's very unlikely that Shenzhen JT Automation EquipmentLtd's statutory profits make it seem much weaker than it is. In light of this, if you'd like to do more analysis on the company, it's vital to be informed of the risks involved. To help with this, we've discovered 3 warning signs (2 are significant!) that you ought to be aware of before buying any shares in Shenzhen JT Automation EquipmentLtd.

In this article we've looked at a number of factors that can impair the utility of profit numbers, as a guide to a business. 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. 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.