SFK Construction Holdings (HKG:1447) Is Posting Solid Earnings, But It Is Not All Good News

Solid profit numbers didn't seem to be enough to please SFK Construction Holdings Limited's (HKG:1447) shareholders. We think that they might be concerned about some underlying details that our analysis found.

Examining Cashflow Against SFK Construction Holdings' Earnings

As finance nerds would already know, the accrual ratio from cashflow is a key measure for assessing how well a company's free cash flow (FCF) matches its profit. 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. To quote a 2014 paper by Lewellen and Resutek, "firms with higher accruals tend to be less profitable in the future".

Over the twelve months to December 2024, SFK Construction Holdings recorded an accrual ratio of 0.52. As a general rule, that bodes poorly for future profitability. And indeed, during the period the company didn't produce any free cash flow whatsoever. Over the last year it actually had negative free cash flow of HK$165m, in contrast to the aforementioned profit of HK$27.8m. Coming off the back of negative free cash flow last year, we imagine some shareholders might wonder if its cash burn of HK$165m, this year, indicates high risk. Having said that, there is more to the story. The accrual ratio is reflecting the impact of unusual items on statutory profit, at least in part.

See our latest analysis for SFK Construction Holdings

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of SFK Construction Holdings.

The Impact Of Unusual Items On Profit

Given the accrual ratio, it's not overly surprising that SFK Construction Holdings' profit was boosted by unusual items worth HK$12m in the last twelve months. 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 crunched the numbers on thousands of publicly listed companies, we found that a boost from unusual items in a given year is often not repeated the next year. Which is hardly surprising, given the name. SFK Construction Holdings had a rather significant contribution from unusual items relative to its profit to December 2024. All else being equal, this would likely have the effect of making the statutory profit a poor guide to underlying earnings power.

Our Take On SFK Construction Holdings' Profit Performance

Summing up, SFK Construction Holdings received a nice boost to profit from unusual items, but could not match its paper profit with free cash flow. For the reasons mentioned above, we think that a perfunctory glance at SFK Construction Holdings' statutory profits might make it look better than it really is on an underlying level. If you'd like to know more about SFK Construction Holdings as a business, it's important to be aware of any risks it's facing. For example, SFK Construction Holdings has 3 warning signs (and 2 which don't sit too well with us) we think you should know about.

Our examination of SFK Construction Holdings has focussed on certain factors that can make its earnings look better than they are. And, on that basis, we are somewhat skeptical. But there are plenty of other ways to inform your opinion of a company. For example, many people consider a high return on equity as an indication of favorable business economics, while others like to 'follow the money' and search out stocks that insiders are buying. 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.