Statutory profit does not reflect good results from Raily Aesthetic Medicine International Holdings (HKG: 2135)
Raily Aesthetic Medicine International Holdings Limited (HKG: 2135) just posted healthy earnings, but the share price hasn’t moved much. Our analysis suggests that investors may be missing out on some promising details.
Check out our latest review for Raily Aesthetic Medicine International Holdings
A closer look at the profits of Raily Aesthetic Medicine International Holdings
In high finance, the key ratio used to measure how well a company converts reported profits into free cash flow (FCF) is the accumulation rate (from cash). Simply put, this ratio subtracts FCF from net income and divides that number by the company’s average operating assets over that period. You could think of the accumulation ratio from cash flow as the “non FCF profit ratio”.
This means that a negative accrual ratio is a good thing, because it shows that the company is generating more free cash flow than its profits suggest. This is not to say that we should be worried about a positive accumulation ratio, but it should be noted where the accumulation ratio is rather high. To quote a 2014 article by Lewellen and Resutek, “Firms with higher totals tend to be less profitable in the future.”
In the twelve months ending June 2021, Raily Aesthetic Medicine International Holdings recorded an accrual ratio of 0.24. Unfortunately, this means that its free cash flow is significantly lower than its reported profits. Over the past year he had in fact negative Free cash flow of CND 2.4 million, in contrast to the aforementioned profit of CNN 11.0 million. Coming out of negative free cash flow last year, we imagine some shareholders might wonder if its CN 2.4 million cash consumption this year indicates high risk. That said, there is more to the story. The accruals ratio reflects the impact of unusual items on statutory profit, at least in part.
To note: we always recommend that investors check the strength of the balance sheet. Click here for our review of Raily Aesthetic Medicine International Holdings’ balance sheet.
The impact of unusual items on profit
Raily Aesthetic Medicine International Holdings’ earnings suffered from unusual items, which reduced CN’s 13 million earnings over the past twelve months. In the event that this was a non-cash load, it would have been easier to have a high cash conversion, so it’s surprising that the build-up ratio tells a different story. While the deductions due to unusual items are disappointing at first, there is a silver lining. We have looked at thousands of listed companies and found that unusual items are very often unique in nature. And, after all, that’s exactly what accounting terminology implies. Assuming these unusual expenses don’t recur, we therefore expect Raily Aesthetic Medicine International Holdings to generate higher profit next year, all other things being equal.
Our take on the earnings performance of Raily Aesthetic Medicine International Holdings
In conclusion, Raily Aesthetic Medicine International Holdings’ build-up ratio suggests that its statutory earnings are not backed by cash flow, although unusual items weighed on earnings. In light of the above, we believe that Raily Aesthetic Medicine International Holdings’ earnings are likely a reasonable reflection of its underlying profitability; although we would be confident in that conclusion if we saw a sharper set of results. Keep in mind that when it comes to analyzing a stock, it is worth noting the risks involved. For example, we have identified 4 warning signs for Raily Aesthetic Medicine International Holdings (2 are significant) that you should know.
Our review of Raily Aesthetic Medicine International Holdings focused on some factors that can make their earnings better than they are. But there are plenty of other ways to tell your opinion about a business. Some people consider a high return on equity to be a good sign of a quality business. Although it may take a bit of research on your behalf, you can find this free set of companies offering a high return on equity, or that list of stocks that insiders buy to be useful.
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