Soft earnings didn't appear to concern Dongguan Development (Holdings) Co., Ltd.'s (SZSE:000828) shareholders over the last week. We think that the softer headline numbers might be getting counterbalanced by some positive underlying factors.

Operating Revenue Or Not?

Companies will classify their revenue streams as either operating revenue or other 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. Notably, Dongguan Development (Holdings) had a significant increase in non-operating revenue over the last year. In fact, our data indicates that non-operating revenue increased from -CN¥50.5m to CN¥119.6m. 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. Sometimes, you can get a better idea of the underlying earnings potential of a company by excluding unusual boosts to non-operating revenue.

Note: we always recommend investors check balance sheet strength. Click here to be taken to our balance sheet analysis of Dongguan Development (Holdings).

The Impact Of Unusual Items On Profit

On top of the non-operating revenue spike, we should also consider the CN¥387m impact of unusual items in the last year, which had the effect of suppressing profit. It's never great to see unusual items costing the company profits, but on the upside, things might improve sooner rather than later. We looked at thousands of listed companies and found that unusual items are very often one-off in nature. And, after all, that's exactly what the accounting terminology implies. Assuming those unusual expenses don't come up again, we'd therefore expect Dongguan Development (Holdings) to produce a higher profit next year, all else being equal.

Our Take On Dongguan Development (Holdings)'s Profit Performance

In its last report Dongguan Development (Holdings) benefitted from a spike in non-operating revenue which may have boosted its profit in a way that may be no more sustainable than low quality coal mining. Having said that, it also took a hit from unusual items, which could bode well for next year, assuming the expense was one-off in nature. Given the contrasting considerations, we don't have a strong view as to whether Dongguan Development (Holdings)'s profits are an apt reflection of its underlying potential for profit. With this in mind, we wouldn't consider investing in a stock unless we had a thorough understanding of the risks. Case in point: We've spotted 3 warning signs for Dongguan Development (Holdings) you should be mindful of and 1 of these is concerning.

Our examination of Dongguan Development (Holdings) has focussed on certain factors that can make its earnings look better than they are. 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. 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.