In: Categories » Legal and finance » Accounting » Accounting principles Earning reports and Conference calls
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Most companies issue a press release reporting their last quarter’s earnings within a few weeks of the quarter’s end. The SEC allows firms 45 days after the quarter’s end, and 90 days after the end of their fiscal year, to file their SEC reports, so the press release data could be all that you have to go on for some time. Companies usually conduct an analysts’ conference call within hours of the earnings release. Anyone can listen in on the conference call live, or listen to a recording (via your browser), for at least a month after the call. You can access the call from the investor’s section of the company’s We site. All calls follow the same structure. They begin with the CEO and CFO reading the contents of the earnings report, often filling in detail not included in the press release, followed by a question-and-answer period. The Q&A session is always the most informative part of the call. Usually only analysts are allowed to ask questions, but some companies open the Q&A to everyone. Sometimes an astute question will reveal surprising information. For instance, in one call, I learned that a key employee had years earlier been CEO of a company accused of Medicare fraud. That was significant news since his current employer was then denying the same charge. Pundits say that you can get a sense of management quality from the way that key executives handle the tough questions. That doesn't work for me. I find that I’m frequently influenced by the tone and timbre, as well as the sincerity conveyed by their voices. Then months later I realize that I’ve been conned by these smooth talkers. I’ve learned that it’s best to focus on the numbers. Analyze the reports using the strategies described in Tool 9, red flags. Here are some pointers. Reported Earnings Many firms report two earnings numbers: (1) pro forma, cash, operating, or some other vague term, and (2) earnings according to generally accepted accounting practices (GAAP). Pro Forma The reported pro forma or cash earnings typically exclude anything that the firm considers nonrecurring. Waste Management took that concept to the limit when it reported $181 million December 2000 quarter pro forma earnings. Waste Management, it turned out, had decided to ignore “$24 million of operating expense, primarily for truck painting/ signage costs and loss on a construction contract,” and another $49 million of SG&A costs when it calculated its pro forma earnings. Unfortunately, market analysts play along with these shenanigans and they compare the firm’s reported pro forma earnings to their forecasts when deciding whether or not the company beat estimates. In many cases, you’ll find that even though a company is said to have met or exceeded analysts’ forecasts, in fact they didn’t. Nevertheless, the share price initially responds to the perceived surprise, which is the difference between the analysts consensus forecasts and the earnings headlined in the company’s earnings report without regard to the validity of the assumptions used to compute the pro forma earnings. Generally Accepted Accounting Practices Fortunately, the companies also include their real GAAP earnings in their quarterly report. Almost all include a complete income statement and many provide at least some items from their balance sheet. Ignore the pro forma reports and focus your attention on the GAAP financial statements. Here’s a list of items that you should check, if available. SALES Did the reported sales meet forecasts? Compare the just reported year-over-year sales growth to the year-ago figure. A significant sales growth slowdown is a red flag. OPERATING MARGIN Compare the just reported quarter’s operating margin to the year-ago margin. The year-ago income statement figures are always listed in a column next to the just reported quarter. A significant decline in operating margin is a red flag. Verify management’s excuses for declining performance. For instance, Boeing’s December 2001 quarter’s operating margin slipped to 1.6 percent from the year-ago 4.9 percent figure. Management blamed the shortfall on costs associated with the events of September 11. The company did indeed suffer costs related to those events and listed them as a separate line item on its income statement. However, Boeing’s income statement also showed that its December 2001 quarter gross margins were 15.1 percent, down from the year-ago 16.8 percent. That was a significant shortfall and was unrelated to 9/11. The drop in gross margins would have impacted profits regardless of September 11. RECEIVABLES AND INVENTORIES Compute the accounts receivables and inventory levels percentages of sales, and compare to the year-ago figures. Either receivables or inventories increasing faster than sales is a red flag. Guidance Many firms now routinely include future quarter’s sales and earnings forecasts in their earnings reports. Analysts will change their forecasts accordingly. Compare the company’s new guidance to prior forecasts. Pay particular attention to the next two quarter’s sales forecasts. Any significant reduction is a red flag. Analysts Research Analysts following the company usually publish their take on the company’s earnings report within a day or two. Most are predictable. They’ll reduce their forecasts in response to bad news and vice versa. However, some will point out information that you didn’t notice or interpret the results in a way that didn’t occur to you. Check out as many analysts’ reports as possible before reacting to the earnings report. The conclusion:Listening to the conference call, a careful analysis of the press release, and a review of analysts’ interpretation of the earnings report can give you a heads up as to potential problems or improving performance weeks before the SEC reports become available.
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