Overview of Earnings

Earnings are essential to understanding the financial health of a company listed on any Stock Exchange. But what are Earnings, how are they calculated, when are they announced, and how are they used to make sound investment decisions? The answers are right here.

What Are Earnings?

Earnings, profits, net income and "bottom line" are all the same thing, that is, the amount of money a company make after expenses. Generally Accepted Accounting Principles (GAAP) are the rules used to report earnings so, theoretically, earnings can be compared between companies. There are lots of exceptions to GAAP so beware.

Earnings Per Share

Every share of stock represents ownership in a company. An investor is interested in how much money each share is earning because this often determines the value of the stock. The ratio of (Total Earnings)/(Total Shares) is Earnings Per Share (EPS). This number is also useful for comparing earnings between companies.

Let's take Intel as an example. If Intel reports Earnings of $1 Billion dollars and 100 Million shares of Intel have been issued, then Intel's EPS would be ($1 Billion Dollars)/(100 Million Shares) = $10/share. Large and growing EPS signals financial strength and this often drives up the stock price (and vice versa). EPS can also be used to compare companies in similar industries. For example, comparing Intel and IBM's EPS provides information about the relative value of the two companies' stock. You can check out the latest earnings reports on News Quantified's stock specific pages by typing the stock's name or symbol in the search bar on top. For example if you type Intel or INTC, you’ll get to Intel’s page: https://www.newsquantified.com/stock-quote/INTC . Then click on Earnings you will see the last few earnings reports. The last report is here: https://www.newsquantified.com/earnings-report/INTC-2017-q4-0527lf

Earnings Season

By law, U.S. publically traded companies must report earnings every 3 months. Most companies use the calendar year to report earnings, ending each financial quarter on the last day of March, June, September, and December. The weeks following the end of these quarters are called the Earnings Season because that is when most earnings are reported. Note, however, that companies can use any rolling 3-month period to release earnings.

Earnings Releases

Publically traded companies in the U.S. must widely publicize their earnings within several weeks after the end of their financial quarter (See "Timing of Earnings Announcements below for details). Analysts working for financial firms like Goldman Sachs spend a lot of time attempting to estimate what a company's earnings will be and public companies put a lot of effort into providing guidance to the Analysts, so their earnings will appear to meet or exceed the estimates. Large companies like Google or Facebook may have 50 or more Analysts making estimates of the upcoming earnings. The average of these estimates is often called the "consensus" earnings estimate.

If a company releases earnings that are above the consensus estimate (also called "beat" or "surprise"), the stock often moves higher. Conversely, a stock can move lower if the earnings are below the consensus estimate (also called "miss" or "disappoint").

Importance of Earnings

Ultimately, earnings per share drive stock prices. Larger earnings allow a company to expand, invest in money-saving technology, buy back shares, and/or pay dividends. Earnings create shareholder value and investors are willing to pay for that.

Sometimes investors bet on future earnings by purchasing stock in a company that is losing money. Tesla is a good example. Tesla has lost a significant amount of money every quarter, yet the stock price has been rising. In this case, investors will read the earnings release and look for a trend toward profitability. Facebook stock is an example of how this strategy can pay off. Facebook was losing money when it first issued public stock, but investors bet it would ultimately make money and it has. This strategy failed many times during the dotcom bust of 2002 when many high-flying dotcom companies went bankrupt without ever making any money.

Earnings Summary

Earnings reflect the amount of money a company makes. Earnings per share allows an investor to evaluate the share price among companies. Earnings are reported 4 times per year. Wall Street Analysts usually try to forecast what earning will be so investors can make informed decisions. Stock prices often move when Earnings are announced.

Timing and Reporting of Earnings Announcements

The Securities & Exchange Commission (SEC) requires public companies to publish earnings reports no later than 35 days after the end of their first three quarters and their annual earnings report 60 days after the end of their fiscal year. The official reporting of quarterly earnings is done by filing Form 10-Q or 10-QSB ("Q" is for "Quarterly", "SB" is for "Small Business") and annual earnings reports use Form 10-K or 10-KSB ("K" is for annual). The 10-K report contains much more detail about a company than the 10-Q form. A company can file these reports or announce earnings publicly anytime within the timeframe specified by the SEC and the SEC reports often lag the public earnings announcements. Note that Form 8-K is used to report special material information that occurs in the time between quarterly reports.

Many websites have the release dates for earnings reports of publicly traded companies. This is called the “Earnings Calendar”. There are various free and paid sources of earnings calendars. News Quantified has partnered with Wall Street Horizon to provide subscribers with reliable earnings data. Normally, earnings calendars only provide a listing of earnings dates but with News Quantified you are able to turn past earnings history into actionable signals to generate above-market returns.

Understanding Earnings

Financial analysts at investment firms make an entire career out of analyzing earnings reports so it is not a simple process. Most investors rely on information from these professionals rather than grinding through the analysis process themselves. It is important, however, to understand how the analysis is done and the jargon used to report the results.

What are Earnings?

"Earnings" is a shortened version of "Earnings per Share". The standard method for calculating quarterly earnings is to determine the Company's net income after all expenses and taxes. You will always find this number in the quarterly reports. All by itself, the dollar amount of earnings isn't useful until it is divided by the number of shares of stock issued by the company. Every share of stock represents ownership in the Company. An investor is interested in how much money each share is earning because this often determines the value of the stock. The ratio of (Net Earnings)/(Total Shares) is Earnings Per Share (EPS). This number is useful for comparing earnings between companies. In addition to this basic method, there are many additional ways of reporting earnings to reflect special circumstances. These variations are explained later in this section. However, always be careful to only compare Earnings that are calculated by the same method.

P/E Ratio

The stock-price-to-earnings ratio (often called P/E ratio), is calculated as the stock price divided by earnings per share. The P/E ratio is used to compare the value of stock prices.  A company with a high price compared to its earnings may be considered as overvalued. Likewise, a company with a low price compared to its earnings may be undervalued.

Trailing vs. Forward Earnings

"Trailing" earnings are actual results, that is, the earnings for the last quarter or the last year. "Forward" earnings are those forecast by the Company or an Analyst. The quality of a Forward Earnings number is highly dependent on the quality and integrity of the Company and the Analyst.

Operating Earnings (EBIT)

Operating Earnings are Earnings Before Interest and Taxes (abbreviated EBIT). By ignoring tax and interest expenses, it focuses solely on a company's ability to generate earnings from operations, ignoring taxation rates and debt load. EBIT can be useful to determine if a company could be valuable if bought out and its tax rate or debt load were changed. "Operating Earnings" is not defined by GAAP (Generally Accepted Accounting Practices) and therefore one must know exactly how the number is calculated before using it for investing decisions.

Earnings Before Taxes (EBT)

Earnings Before Taxes (EBT) is calculated by ignoring taxes as an expense in the Earnings calculation. This is useful when comparing Companies in locations with different taxation rates. In another example, the latest Tax Reform Legislation of 2018 has resulted in some large one-time tax bills that distort the after-tax earnings, so EBT could be used to remove this impact on earnings.

Fully Diluted Earnings

Fully Diluted Earnings is calculated by dividing the Net Profit by the total number of authorized shares, not just the shares currently outstanding. When a Company has issued warrants, convertible Notes, or stock options, these items increase the outstanding shares when they are exercised.  Adding these "future" shares to the currently outstanding shares to calculate Fully Diluted Earnings provides a picture of how Earnings may look in the future.

Adjusted Earnings or non-GAAP Earnings

Analysts and companies often call special attention to earnings excluding one-time expenses. These Earnings are often called "Adjusted" or "non-GAAP". For example, if a company suffered a significant one-time loss during a hurricane, this loss lowers the quarterly earnings and obscures the normal growth of the company's business. As implied by "non-GAAP", there are no accounting rules to specify how these Earnings are calculated. It is very difficult to compare these Earnings between Companies.

Managing Earnings

Various legal accounting adjustments can be made to manipulate earnings for a particular quarter. It's more difficult to manipulate earnings in the long run. Financial Analysts looks for these tricks when examining the fine details of the Company's Profit and Loss statement. For example, a company could slow its rate of capital asset depreciation, thus apparently increasing its earnings. Unless you are training in accounting, rely on experts to find and explain earnings management.

Earnings are not the whole picture

While Earnings are very useful when comparing companies or measuring the growth rate of a company, there are many other factors to be considered when evaluating an investment. The amount of debt carried by a company is important if the debt is maturing and interest rates are rising. Cash-on-hand and cash flow are essential to a company's financial health. Legal troubles must be considered. And the list goes on and on. The 10-Q document published by the Company after the Earnings Announcement is the best source of detailed financial information about the Company.

Analysts and Earnings Estimates

What is an Analyst?

Analysts are professionals trained to understand financial statements and to project the future Earnings of a Company based on the Company's sales and expense forecasts, quality of management, supply & demand, external economic trends, competition, and just about anything else that can affect Earnings. The end result of the analyst's work is a research report with a set of financial estimates, a stock price target and a recommendation about whether to buy, sell, or hold the stock.  Analysts are often specialists in one particular industry.  Analysts rely on information provided to them by the Company they are evaluating so it's difficult for the average investor to duplicate the work of an analyst. Other names for this job include research analyst, financial analyst, securities analyst, investment analyst, equity analyst, or ratings analyst.

Analysts are employed by a variety of financial firms. Depending on whom they work for, an Analyst is often called "buy-side" or "sell-side". This confusing term has nothing to do about whether an Analyst is recommending to buy or sell a stock, rather it has do with the nature of their employer. Buy-side analysts typically work for mutual funds, hedge funds, pension funds, trusts, and other non-brokerage firms. As such, they are interested in making trading recommendations that benefit their firms' clients and their research is often a closely-held secret for the benefit of their customers. Sell-side analysts work for brokerage firms like Schwab, Goldman Sachs, or Wells Fargo and their research is widely disseminated in an attempt to increase trading business. Sell-side analysts are often utilized by Companies to promote their stock. The upgrades and downgrades that are published on a daily basis are coming from Sell-side analysts.

Earnings Press Releases

Companies are required by the Security and Exchange Commission's "Fair Disclosure" rules to widely publicize their Earnings in a way that doesn't give any investor an advantage over another investor. Most Companies use news wires like Business Wire, PR Newswire, Globe Newswire and Marketwired to publish their Earnings because it guarantees broad distribution of the news. Earnings News Releases are analyzed instantly by investors and analysts, often causing the stock to move up or down. The news release is written by the Company itself, so it will present the information in the best possible way. Earnings news releases often contain guidance about future earnings and business prospects in general. In addition, a publicly-accessible conference call is usually scheduled within 48 hours of the Earnings release so all investors can ask discuss the Earnings with the Company. 

10-K and 10-Q Reports

A 10-K report is a very detailed form filed annually by all publically traded companies. (The quarterly version is called a 10-Q report). Unlike the fancy and photo-filled Annual Reports published by companies for shareholders, the 10-K report is written in a clinical and highly organized fashion specified by the Securities and Exchange Commission (SEC). It contains virtually everything an investor may want to know about a company: their markets, risks, competition, legal proceedings, corporate agreements, organization, executive compensation and, of course, 5 years' history of financial information. The 10-K report has the advantage of being organized in the same way for all companies, so it makes analysis easier. It's well worth it to learn how to read a 10-K report when considering where to invest your money.

The 10-K and 10-Q reports are published on the SEC's EDGAR website. EDGAR stand for Electronic Data Gathering, Analysis, and Retrieval. The SEC provides a searchable historical record of all public companies by using this link. Our recent blog post "From SEC EDGAR Filings to Real Time Data Profits" explains what you need to know.

Company Investor Relations

An excellent source of Earnings information is the "Investor" section of most public Company websites. Here, the Company provides a discussion about Earnings and links to annual reports, SEC filings, conference calls and press releases. Good companies usually provided contact information for more specific questions about the company.

Trading on Earnings Announcements In The Pre- And Post-Market Sessions

Most investors know that US stock markets are regularly open between 9:30am-4:00pm Eastern Time. Most trading is done during these hours but with the advent of computerized trading, you can also trade before and after the regular market session. Pre-market trading is possible between 4am-9:30am Eastern Time and Post-market trading occurs from 4pm-8pm Eastern Time.

As you might expect, the volume of trading during the pre- and post-market sessions is a small fraction of the main session. Consequently, it is sometimes difficult to match up buyers and sellers for thinly-traded stocks. This means prices will often see bigger price swings and the difference between the Bid and Ask prices can be large. "Market" orders can be dangerous in pre-& post-market sessions, especially with lightly-traded stocks in smaller companies. Nevertheless, these alternative sessions offer a way to act quickly on Earnings information.

Companies almost always release their Earnings outside of the normal market hours. In theory, this timing is to give investors a chance to thoroughly understand the Earnings before the market opens the next day. However, savvy institutional investors often act as soon as possible on Earnings information If a company beats or misses the consensus forecast, the stock's price often moves rather quickly in the pre- or post-market session so by the time the main market opens, the price has already shifted.

Most brokers now offer pre- and post-market trading to all of their clients. Check with your own broker for the fine print about how they operate during these sessions. Check out our blog post on how to profit during the extended hour sessions. 

Picking a broker

Whether you are a stock-trading rookie or a seasoned veteran, it literally pays to carefully choose your stock broker. It all begins by knowing how much trading you will be doing and how much help you will need. When you are ready to pick, simply search the Internet for "How to pick a stock broker" and a wide variety of advice will be presented.

Full Service brokers are more expensive, but they offer brick-and-mortar stores with registered investment advisors at your beck-and-call for advice. These brokers sometimes offer banking, trust, insurance, and access to obscure markets. Remember that brokers are really just well-educated salespeople who rely on trading to pay their rent, so they will encourage you to trade.

Discount brokers provide trading at a fraction of the cost, but you give up personal advice and special services.

If you make your own investment decisions, a discount broker is probably the most cost-effective choice. Both kind of brokers are licensed and insured. It's also important to realize that switching brokers is relatively easy these days. If you go to a new broker, they will gladly assist you in transferring your account.

Pay attention to the cost of a trade (whether per-share or per-trade), transaction fees, ease of deposits and withdrawals, the interest rate on margin borrowing, and account management fees. Choosing a broker is easier if you first determine the probable size of your account and the amount of trading you will be doing.

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