Even though Old Chang Kee Ltd.'s (Catalist:5ML) recent earnings release was robust, the market didn't seem to notice. Investors are probably missing some underlying factors which are encouraging for the future of the company.

See our latest analysis for Old Chang Kee

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. The accrual ratio subtracts the FCF from the profit for a given period, and divides the result by the average operating assets of the company over that time. You could think of the accrual ratio from cashflow as the 'non-FCF profit ratio'.

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. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

Old Chang Kee has an accrual ratio of -1.82 for the year to September 2024. Therefore, its statutory earnings were very significantly less than its free cashflow. To wit, it produced free cash flow of S$25m during the period, dwarfing its reported profit of S$11.5m. Old Chang Kee 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 Old Chang Kee.

Surprisingly, given Old Chang Kee's accrual ratio implied strong cash conversion, its paper profit was actually boosted by S$863k 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. 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 Old Chang Kee doesn't see that contribution repeat, then all else being equal we'd expect its profit to drop over the current year.

In conclusion, Old Chang Kee's accrual ratio suggests its statutory earnings are of good quality, but on the other hand the profits were boosted by unusual items. Considering all the aforementioned, we'd venture that Old Chang Kee's profit result is a pretty good guide to its true profitability, albeit a bit on the conservative side. If you'd like to know more about Old Chang Kee as a business, it's important to be aware of any risks it's facing. Case in point: We've spotted 1 warning sign for Old Chang Kee you should be aware of.