We Think That There Are More Issues For RongFa Nuclear Equipment (SZSE:002366) Than Just Sluggish Earnings

Investors were disappointed with RongFa Nuclear Equipment Co., Ltd.'s (SZSE:002366) recent earnings. We think that they may have more to worry about than just soft profit numbers.

Check out our latest analysis for RongFa Nuclear Equipment

A Closer Look At RongFa Nuclear Equipment'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. 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. The ratio shows us how much a company's profit exceeds its FCF.

That means a negative accrual ratio is a good thing, because it shows that the company is bringing in more free cash flow than its profit would suggest. 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.

For the year to September 2024, RongFa Nuclear Equipment had an accrual ratio of 0.36. Statistically speaking, that's a real negative for future earnings. To wit, the company did not generate one whit of free cashflow in that time. Even though it reported a profit of CN¥186.6m, a look at free cash flow indicates it actually burnt through CN¥1.4b in the last year. We also note that RongFa Nuclear Equipment's free cash flow was actually negative last year as well, so we could understand if shareholders were bothered by its outflow of CN¥1.4b. 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 RongFa Nuclear Equipment.

The Impact Of Unusual Items On Profit

Given the accrual ratio, it's not overly surprising that RongFa Nuclear Equipment's profit was boosted by unusual items worth CN¥171m in the last twelve months. While it's always nice to have higher profit, a large contribution from unusual items sometimes dampens our enthusiasm. We ran the numbers on most publicly listed companies worldwide, and it's very common for unusual items to be once-off in nature. And that's as you'd expect, given these boosts are described as 'unusual'. We can see that RongFa Nuclear Equipment's positive unusual items were quite significant relative to its profit in the year to September 2024. As a result, we can surmise that the unusual items are making its statutory profit significantly stronger than it would otherwise be.

Our Take On RongFa Nuclear Equipment's Profit Performance

RongFa Nuclear Equipment had a weak accrual ratio, but its profit did receive a boost from unusual items. For the reasons mentioned above, we think that a perfunctory glance at RongFa Nuclear Equipment's statutory profits might make it look better than it really is on an underlying level. If you want to do dive deeper into RongFa Nuclear Equipment, you'd also look into what risks it is currently facing. To that end, you should learn about the 2 warning signs we've spotted with RongFa Nuclear Equipment (including 1 which is a bit concerning).

Our examination of RongFa Nuclear Equipment 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.