Even though Shenzhen Hello Tech Energy Co., Ltd.'s (SZSE:301327) recent earnings release was robust, the market didn't seem to notice. Our analysis suggests that investors might be missing some promising details.

A Closer Look At Shenzhen Hello Tech Energy'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. This ratio tells us how much of a company's profit is not backed by free cashflow.

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. 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 September 2024, Shenzhen Hello Tech Energy had an accrual ratio of -0.38. That indicates that its free cash flow quite significantly exceeded its statutory profit. To wit, it produced free cash flow of CN¥523m during the period, dwarfing its reported profit of CN¥47.7m. Notably, Shenzhen Hello Tech Energy had negative free cash flow last year, so the CN¥523m it produced this year was a welcome improvement. However, that's not all there is to consider. We can see that unusual items have impacted its statutory profit, and therefore the accrual ratio.

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.

How Do Unusual Items Influence Profit?

Shenzhen Hello Tech Energy's profit was reduced by unusual items worth CN¥17m in the last twelve months, and this helped it produce high cash conversion, as reflected by its unusual items. This is what you'd expect to see where a company has a non-cash charge reducing paper profits. While deductions due to unusual items are disappointing in the first instance, there is a silver lining. We looked at thousands of listed companies and found that unusual items are very often one-off in nature. And that's hardly a surprise given these line items are considered unusual. In the twelve months to September 2024, Shenzhen Hello Tech Energy had a big unusual items expense. All else being equal, this would likely have the effect of making the statutory profit look worse than its underlying earnings power.

Our Take On Shenzhen Hello Tech Energy's Profit Performance

In conclusion, both Shenzhen Hello Tech Energy's accrual ratio and its unusual items suggest that its statutory earnings are probably reasonably conservative. Based on these factors, we think Shenzhen Hello Tech Energy's underlying earnings potential is as good as, or probably even better, than the statutory profit makes it seem! If you'd like to know more about Shenzhen Hello Tech Energy as a business, it's important to be aware of any risks it's facing. You'd be interested to know, that we found 1 warning sign for Shenzhen Hello Tech Energy and you'll want to know about it.

After our examination into the nature of Shenzhen Hello Tech Energy's profit, we've come away optimistic for the company. 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.