Are NL Industries's (NYSE:NL) Statutory Earnings A Good Guide To Its Underlying Profitability?

Statistically speaking, it is less risky to invest in profitable companies than in unprofitable ones. That said, the current statutory profit is not always a good guide to a company's underlying profitability. Today we'll focus on whether this year's statutory profits are a good guide to understanding NL Industries (NYSE:NL).

We like the fact that NL Industries made a profit of US$16.7m on its revenue of US$114.2m, in the last year. The chart below shows that revenue has been flat over the last three years, while profit has actually declined.

See our latest analysis for NL Industries

Not all profits are equal, and we can learn more about the nature of a company's past profitability by diving deeper into the financial statements. This article, will discuss how unusual items and a tax benefit have impacted NL Industries' most recent bottom line results. Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of NL Industries.

How Do Unusual Items Influence Profit?

For anyone who wants to understand NL Industries' profit beyond the statutory numbers, it's important to note that during the last twelve months statutory profit was reduced by US$11m due to unusual items. It's never great to see unusual items costing the company profits, but on the upside, things might improve sooner rather than later. 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. NL Industries took a rather significant hit from unusual items in the year to September 2020. As a result, we can surmise that the unusual items made its statutory profit significantly weaker than it would otherwise be.

An Unusual Tax Situation

Just as we noted the unusual items, we must inform you that NL Industries received a tax benefit which contributed US$4.0m to the bottom line. This is meaningful because companies usually pay tax rather than receive tax benefits. Of course, prima facie it's great to receive a tax benefit. 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. 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 NL Industries' Profit Performance

In its last report NL Industries received a tax benefit which might make its profit look better than it really is on a underlying level. But on the other hand, it also saw an unusual item depress its profit. Given the contrasting considerations, we don't have a strong view as to whether NL Industries's profits are an apt reflection of its underlying potential for profit. So while earnings quality is important, it's equally important to consider the risks facing NL Industries at this point in time. Case in point: We've spotted 2 warning signs for NL Industries you should be aware of.

In this article we've looked at a number of factors that can impair the utility of profit numbers, as a guide to a business. But there is always more to discover if you are capable of focussing your mind on minutiae. Some people consider a high return on equity to be a good sign of a quality business. So you may wish to see this free collection of companies boasting high return on equity, or this list of stocks that insiders are buying.

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This article by Simply Wall St is general in nature. 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.
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