Earnings reporting season delivers a tsunami of numbers.
Net profit, earnings before interest, earnings before interest and tax, earnings before interest, tax, depreciation and amortisation. Which numbers are the correct ones to check out?
Well they are all important in their own particular way. But the numbers themselves tell a tale of times past. And successful investing is all about picking winners in a race that has yet to be run.
Obviously, if a company in which you have invested has just suffered a dramatic drop in earnings because the product it sells is no longer attractive or because management has made some monumental error, then looking at the report card from the past half year is essential.
But the most important thing to focus on is what the company believes the future holds.
These days, every company has a duty to keep shareholders informed on anything that may affect the share price. It’s called the continuous disclosure rule.
That even extends to announcing whether or not the stockbrokers and analysts – who make forecasts about every company’s future earnings – are either on track or out of the ball park.
The share price of most companies is determined more by its future prospects than how it has performed in the past. While the foundation stone for any company’s share price is its most recent earnings, smart investors look ahead.
That’s why some companies in the most recent earnings season that delivered spectacular results had their stock prices slammed. Almost all expressed reservations about the future. Without the prospect of earnings growth, the share prices of many of these outfits could not be justified.
Investors obviously don’t get it right all the time. The buying is usually overdone on the way up. And likewise the selling is often overdone when a company announces “difficulties” or “challenging” times ahead.
Perhaps the best example of these extreme reactions was during the “dotcom bubble” years in the late 90s and early noughties.
In most cases, these companies had no earnings at all. And yet some managed to be valued on the stock exchange at a billion dollars or more. It was all about the future, the potential for earnings, the blue sky, as it is called.
Of course, as time went on, it became clear that the skies were very overcast for most of these outfits. The bubble eventually burst and most of those companies no longer exist.
So keep a firm eye on the future. But bear in mind that the present and the past often can be a guide to the future.