Densan's (TSE:3640) Performance Is Even Better Than Its Earnings Suggest

Investors were underwhelmed by the solid earnings posted by Densan Co., Ltd. (TSE:3640) recently. We have done some analysis and have found some comforting factors beneath the profit numbers.

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Zooming In On Densan's Earnings

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. That is not intended to imply we should worry about a positive accrual ratio, but it's worth noting where the accrual ratio is rather high. That's because some academic studies have suggested that high accruals ratios tend to lead to lower profit or less profit growth.

Over the twelve months to September 2026, Densan recorded an accrual ratio of -0.15. Therefore, its statutory earnings were very significantly less than its free cashflow. To wit, it produced free cash flow of JP¥5.9b during the period, dwarfing its reported profit of JP¥3.98b. Densan's free cash flow improved over the last year, which is generally good to see.

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

Our Take On Densan's Profit Performance

As we discussed above, Densan has perfectly satisfactory free cash flow relative to profit. Because of this, we think Densan's earnings potential is at least as good as it seems, and maybe even better! Better yet, its EPS are growing strongly, which is nice to see. Of course, we've only just scratched the surface when it comes to analysing its earnings; one could also consider margins, forecast growth, and return on investment, among other factors. If you want to do dive deeper into Densan, you'd also look into what risks it is currently facing. Every company has risks, and we've spotted 1 warning sign for Densan you should know about.

Today we've zoomed in on a single data point to better understand the nature of Densan's profit. But there is always more to discover if you are capable of focussing your mind on minutiae. 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. 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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