Even though Zhongtong Bus Holding Co.,LTD's (SZSE:000957) 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 Zhongtong Bus HoldingLTD'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. 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. This ratio tells us how much of a company's profit is not backed by free cashflow.

As a result, a negative accrual ratio is a positive for the company, and a positive accrual ratio is a negative. 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, Zhongtong Bus HoldingLTD had an accrual ratio of -1.23. Therefore, its statutory earnings were very significantly less than its free cashflow. In fact, it had free cash flow of CN¥1.4b in the last year, which was a lot more than its statutory profit of CN¥191.2m. Zhongtong Bus HoldingLTD shareholders are no doubt pleased that free cash flow improved over the last twelve months. 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 Zhongtong Bus HoldingLTD.

The Impact Of Unusual Items On Profit

Surprisingly, given Zhongtong Bus HoldingLTD's accrual ratio implied strong cash conversion, its paper profit was actually boosted by CN¥54m in unusual items. While it's always nice to have higher profit, a large contribution from unusual items sometimes dampens our enthusiasm. When we analysed the vast majority of listed companies worldwide, we found that significant unusual items are often not repeated. And that's as you'd expect, given these boosts are described as 'unusual'. If Zhongtong Bus HoldingLTD 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 Zhongtong Bus HoldingLTD's Profit Performance

In conclusion, Zhongtong Bus HoldingLTD's accrual ratio suggests its statutory earnings are of good quality, but on the other hand the profits were boosted by unusual items. Based on these factors, we think that Zhongtong Bus HoldingLTD's profits are a reasonably conservative guide to its underlying profitability. If you want to do dive deeper into Zhongtong Bus HoldingLTD, you'd also look into what risks it is currently facing. You'd be interested to know, that we found 1 warning sign for Zhongtong Bus HoldingLTD and you'll want to know about it.

Our examination of Zhongtong Bus HoldingLTD has focussed on certain factors that can make its earnings look better than they are. 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.