We Believe That WOORIM POWER TRAIN SOLUTION's (KOSDAQ:101170) Weak Earnings Are A Good Indicator Of Underlying Profitability

Shareholders didn't appear too concerned by WOORIM POWER TRAIN SOLUTION Co., Ltd.'s (KOSDAQ:101170) weak earnings. Our analysis suggests that they may be missing some concerning details underlying the profit numbers.

View our latest analysis for WOORIM POWER TRAIN SOLUTION

A Closer Look At WOORIM POWER TRAIN SOLUTION'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. 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. 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 it's not a problem to have a positive accrual ratio, indicating a certain level of non-cash profits, a high accrual ratio is arguably a bad thing, because it indicates paper profits are not matched by cash flow. 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 December 2023, WOORIM POWER TRAIN SOLUTION had an accrual ratio of 0.22. We can therefore deduce that its free cash flow fell well short of covering its statutory profit. Even though it reported a profit of ₩5.04b, a look at free cash flow indicates it actually burnt through ₩12b in the last year. Coming off the back of negative free cash flow last year, we imagine some shareholders might wonder if its cash burn of ₩12b, this year, indicates high risk. However, we can see that a recent tax benefit, along with unusual items, have impacted its statutory profit, and therefore its accrual ratio.

That might leave you wondering what analysts are forecasting in terms of future profitability. Luckily, you can click here to see an interactive graph depicting future profitability, based on their estimates.

How Do Unusual Items Influence Profit?

Given the accrual ratio, it's not overly surprising that WOORIM POWER TRAIN SOLUTION's profit was boosted by unusual items worth ₩290m in the last twelve months. While we like to see profit increases, we tend to be a little more cautious when unusual items have made a big contribution. When we analysed the vast majority of listed companies worldwide, we found that significant unusual items are often not repeated. And, after all, that's exactly what the accounting terminology implies. If WOORIM POWER TRAIN SOLUTION doesn't see that contribution repeat, then all else being equal we'd expect its profit to drop over the current year.

An Unusual Tax Situation

In addition to the notable accrual ratio, we can see that WOORIM POWER TRAIN SOLUTION received a tax benefit of ₩1.3b. This is of course a bit out of the ordinary, given it is more common for companies to be paying tax than receiving tax benefits! The receipt of a tax benefit is obviously a good thing, on its own. However, our data indicates that tax benefits can temporarily boost statutory profit in the year it is booked, but subsequently profit may fall back. Assuming the tax benefit is not repeated every year, we could see its profitability drop noticeably, all else being equal. So while we think it's great to receive a tax benefit, it does tend to imply an increased risk that the statutory profit overstates the sustainable earnings power of the business.

Our Take On WOORIM POWER TRAIN SOLUTION's Profit Performance

In conclusion, WOORIM POWER TRAIN SOLUTION's weak accrual ratio suggests its statutory earnings have been inflated by the non-cash tax benefit and the boost it received from unusual items. For the reasons mentioned above, we think that a perfunctory glance at WOORIM POWER TRAIN SOLUTION's statutory profits might make it look better than it really is on an underlying level. If you'd like to know more about WOORIM POWER TRAIN SOLUTION as a business, it's important to be aware of any risks it's facing. To help with this, we've discovered 2 warning signs (1 is a bit unpleasant!) that you ought to be aware of before buying any shares in WOORIM POWER TRAIN SOLUTION.

Our examination of WOORIM POWER TRAIN SOLUTION 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. 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 that insiders are buying to be useful.

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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.