Learning to read an earnings report is a great way to gain more knowledge about a company’s financial health, which should lead to better investment decisions.
The data support that notion.
According to a 2018 study on financial literacy and investment returns by Alpha Architect, “More literate households hold riskier positions when expected returns are higher, they more actively rebalance their portfolios and do so in a way that holds their risk exposure relatively constant over time, and they are more likely to buy assets that provide higher returns than the assets that they sell.”
Actually learning more about a company’s financial fundamentals is fairly easy to do – it just takes time, discipline, and a little inside financial knowledge.
Let’s lend a hand on the financial knowledge front with a review on reading an earnings report, i.e. how to do it, what to look for, and some tips to maximize your learning experience.
Why Earnings Matter
Investors should – and do – place a high priority on company earnings reports.
That’s because earnings reports reveal the ingredients needed to generate a company’s profits, which usually leads to a higher stock price.
Metrics like net income, earnings per share and company guidance often dictate how interested investors are in a company’s stock. On Wall Street, nothing is ever etched in stone, but by and large, an earnings report serves as a good indicator of how a company is performing financially, where its succeeding and where it’s lacking, in cold, hard numbers.
Investors can then use this information to make a call on buying, selling, or avoiding a company’s stock.
Reading an Earnings Report
Four times a year, publicly-traded companies are mandated by U.S. securities law to report their financial earnings, and do so via a form 10Q.
That filing goes directly to the U.S. Securities Exchange Commission (SEC) which in turn publishes the company’s earnings so investors have a clean and transparent look at a company’s financial position.
The dates don’t have to be the same for every company, but many companies stock to the following earnings report filing schedule:
- The end of March
- The end of June
- The end of September
- The end of December
Companies usually take a few weeks past these deadlines to actually report earnings, but those earnings always include numbers from the previous three months (one quarter).
In that earnings report are the following items:
The company’s revenues. This is the amount of money the company earned during the quarter. By and large, savvy investors focus on revenues first, especially if the economy or the sector the company operates in is lagging.
The company’s expenses. This is the money spent during the quarter in the course of doing business.
The company’s profit for the quarter. Otherwise known as bottom line earnings or net income, this is the amount of money left, if any, after subtracting expenses from revenues. Companies that routinely report profits quarter after quarter are companies that see their stock shares in demand. Conversely, companies that usually report losses instead of profits will likely see investors stay away from buying shares, and more selling activity among investors who own the company’s stock.
Earnings per share. This is the earnings per each share of company stock, and the metric most cited by financial industry insiders and media when dissecting an earnings report. Stock shares, after all, are dynamic, and companies are always buying back shares and investors are often selling shares. EPS takes these factors into consideration.
Estimates. Analysts use terms like “beat estimates” or “missed estimates” to cite how well or how poorly a company performs over a quarter.
Of course, these estimates are forward looking and metrics like revenues, sales, and earnings per share are included in those estimates. If a company outperforms on those metrics, then they’ve beaten estimates. If not, they’ve missed estimates. Both outcomes can have a big impact on a company’s stock price.
Company guidance. Companies reporting their earnings numbers also engage in financial estimates, just as analysts do.
These companies do so in the form of “guidance” estimates, i.e., the company’s expectations of how it will perform financially going forward, usually over the next quarter or the next year. More robust guidance will usually boost a company’s stock price (as investors will follow the company’s positive guidance and buy shares of stock) and lower guidance could cause the stock price to decline, as weak guidance numbers cause investors to lose confidence in the stock.
Tips on Maximizing Your Earnings Report Experience
There are ways to improve the information-gathering portion of your earnings report review and good investors will want to know about them. Take these tips with when you start reviewing a company’s earnings report.
Read the release. Most 10-Q forms are dense, dry and detailed, with many forms over 100 pages or more. To lighten the load, read the company’s accompanying press release on is earnings (all companies provide them with the release of their earning statements.)
The release, usually issued by a company’s investor relations department, boil down the numbers to the essentials, thus providing the bottom line information investors need to make a proper stock transaction decision.
Review the “management discussion” section. Many companies also include an assessment of the company’s financials by senior executives at the company – often from the chief executive officer and chief financial officer – or both.
This is the section where company decision-makers provide their outlook on company financial issues, good and bad, and go into greater detail on key company factors like new products, new purchases or partners, and any news that popped up in the business and financial media, and how the company views those news reports.
To get a good sense of where a company is now and which direction it's headed, the management discussion section of an earnings report can be a real eye-opener, and highly worthwhile to read.
Ask – and get answers for – the following questions. Investors routinely have questions about a company before they pour any cash into stocks, and rightly so. And a company’s earnings report reveals the answers to those questions – if you know where to look.
When you focus on key earnings issues like revenues, net income, and dividend history, for example, make sure you’re getting the answers in the report on the following questions:
- How did the company perform financially over the last quarter and what were the determining factors?
- How is the company performing relative to past quarters, like one quarter or one year ago? Is there a pattern developing of good or bad earnings outcomes, and what issues are driving those report outcomes – and why?
- Where are revenue streams coming from inside the company? What are the areas of a company’s financial strengths? What products or services are outperforming or underperforming – and why?
- Are costs under control? If expenses are high, what’s the story behind those numbers? What cost burdens can be cut? Which need higher rates of spending and why?
The earnings report should reveal this information and if it does not, more research is required.
Start doing some research online, using your favorite financial and investment platforms, and don’t hesitate to reach out to the company’s investor relations department for more thorough information on all things company earnings.