Why Raontec's (KOSDAQ:232680) Soft Earnings Are Just The Beginning Of Its Problems

Raontec Inc.'s (KOSDAQ:232680) stock wasn't much affected by its recent lackluster earnings numbers. We did some digging, and we believe that investors are missing some worrying factors underlying the profit figures.

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The Power Of Non-Operating Revenue

At most companies, some revenue streams, such as government grants, are accounted for as non-operating revenue, while the core business is said to produce operating revenue. Oftentimes, non-operating revenue spikes are not repeated, so it makes sense to be cautious where non-operating revenue has made a very large contribution to total profit. Importantly, the non-operating revenue often comes without associated ongoing costs, so it can boost profit by letting it fall straight to the bottom line, making the operating business seem better than it really is. It's worth noting that Raontec saw a big increase in non-operating revenue over the last year. Indeed, its non-operating revenue rose from -₩3.69b last year to -₩10.0 this year. The high levels of non-operating revenue are problematic because if (and when) they do not repeat, then overall revenue (and profitability) of the firm will fall. In order to better understand a company's profit result, it can sometimes help to consider whether the result would be very different without a sudden increase in non-operating revenue.

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

How Do Unusual Items Influence Profit?

Alongside that spike in non-operating revenue, it's also important to note that Raontec'sprofit was boosted by unusual items worth ₩372m 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. 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'. If Raontec 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

On top of the spike and non-operating revenue and the unusual item, we can also see that Raontec received a tax benefit of ₩329m. It's always a bit noteworthy when a company is paid by the tax man, rather than paying the tax man. The receipt of a tax benefit is obviously a good thing, on its own. However, the devil in the detail is that these kind of benefits only impact in the year they are booked, and are often one-off in nature. In the likely event the tax benefit is not repeated, we'd expect to see its statutory profit levels drop, at least in the absence of strong growth.

Our Take On Raontec's Profit Performance

In the last year Raontec's non-operating revenue really gave it a boost, but not in a way that is necessarily going to be sustained. And a tax benefit boosted its bottom line, too. The cherry on top was the unusual item. If these unreliable boosts don't persist, we'd expect profit to drop, all else being equal. For all the reasons mentioned above, we think that, at a glance, Raontec's statutory profits could be considered to be low quality, because they are likely to give investors an overly positive impression of the company. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. For example - Raontec has 3 warning signs we think you should be aware of.

Our examination of Raontec 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 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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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.