It's October, and thousands of investors will soon wait with bated breath at their computers and phones.Over the next several weeks, on any given day of business, a few minutes can signal the difference between millions of dollars in profit or loss. It's earnings season. Even if you're new to the investing game, you've probably overheard the earnings frenzy that takes place four times each year for publicly traded companies. This earnings season will be a particularly significant one, considering the current state of economic emergency. A worse-than-expected earnings season could mean a lot of trouble for Wall Street and your investment portfolio. Over the next few days, as you keep tabs on what goes down on Capitol Hill, find some time to get up to speed on earnings season as well. That said, here's a look at the life cycle of an earnings release. First, Earnings Matter Earnings releases are a big deal for one simple reason: The numbers a company delivers can have a monumental effect on its stock price. Just look at Deere ( DE), whose stock price plummeted more than 12% after the company issued an August earnings release that missed earnings targets and offered a weak outlook. On the flip side, exceedingly good earnings can mean a windfall for investors. Tech darling Cisco Systems ( CSCO) reported earnings that beat Wall Street's estimates late last season, bumping its share price up more than 9%. But a company's earnings are rarely as simple as subtracting their expenses from the money they took in that quarter. Trust me. I've spent the last few months getting intimate with Wall Street financials, as an auditor at one of the biggest public accounting firms in the world. So, what exactly goes into getting those earnings releases out?
Behind the Scenes Public companies are required by the Securities and Exchange Commission (SEC) to report quarterly, which means that four times per year, companies have to provide investors with the facts and figures they'll need in order to make a good investment decision. Companies report after the end of their fiscal quarters -- typically December, March, June, and September -- starting a few weeks after the quarter end. Those with wacky year-ends (i.e., not Dec. 31) report on a different schedule. If you're interested in knowing when "your company" reports, one of the easiest ways is to check an online resource like Google Finance, where up-to-date earnings releases (including the exact time) will be listed under the company's "Events" header. "Earnings Season" is the period after the quarter when most companies release their earnings. A lot is happening behind the scenes during the time between a public company's quarter ends and its earnings release. Companies take anywhere from a couple weeks to more than a month to get their earnings out, and you can bet that some serious hours are put in to get all the company's financial ducks in a row. Stop the Presses The first thing that has to happen for an earnings release is the creation of a draft release by the finance department. Pretty much all public companies have an accounting system that can handle spitting out the numbers needed to put together the financial statements right after quarter end, but a lot more has to take place before they can start printing up their "10-Q." One of the clients I worked with was an investment manager set to issue a press release preceding its annual shareholders' meeting, and we were tasked with ensuring that their press release was accurate for investors. Remember, companies don't have to get their auditors to look at things like 10-Qs and press releases (only the 10-K absolutely requires the opinion of an independent public accounting firm), but companies who want to air on the side of caution always do (for more on audit opinions, check out " Audits, Financial Statements and You").
The draft goes through a lengthy review process internally, making sure that all the numbers are accurate before they're released to the general public. In a post- Enron world, many companies don't stop the review process there; they'll also hand their draft financials over to their external auditors -- these are the firms they're required to hire to draft an opinion about the accuracy of their financial statements and controls. This review can take a long time because auditors really take out a magnifier to look at where the financial numbers came from, and whether or not they paint an accurate picture of the company's operations. At large companies, auditors are present year-round, getting a sense of the accuracy of the numbers investors look at to make investment decisions. In the case of my client, we were making sure that the tables and numbers found throughout the text were backed up. After taking a look at the draft financials (and the "Management's Discussion" and "Analysis," in the case of a 10-Q), necessary changes are discussed and approved before they're finalized. (For more on why a company's net income is usually not the same as its cash income, check out " Getting Started: The Income Statement"). An earnings release often goes beyond accounting numbers. When you look at a press release or SEC filing, you're bound to see non-accounting estimates and analyses. These are just as important as the financial numbers because they're often the basis for performance predictions. When a company says that it expects to grow its overseas business by X%, that statement can be crucial for an investment decision. For an investment manager, "assets under management" is one of the biggest measures of stature. Even though it wasn't an accounting number, it was a number that we had to verify before we could sign off on their earnings release. The Impact of Earnings All of this work has just one goal: to provide comfort over the numbers handed over by a company's management. However, for many investors there's a disconnect between a company's "books" and its stock price. From the perspective of an auditor though, stock price and financials are inseparable. The impact of an earnings release is the best example of that. Ultimately for my client, a slightly worse than expected loss brought shares down 11% in the days following the release. This season, expect more of the same. Data storage company Xyratex ( XRTX) fell almost 13% in one day on lowered earnings projections for this quarter. Marriott ( MAR) slipped 3% for similar reasons. And earnings season hasn't even started yet. In a matter of minutes an earnings release can send a stock on a double-digit downward spiral or a hundred-point ascent. Even though understanding the earnings release lifecycle won't give you the psychic powers to predict a 12% increase in EPS or an 8% decrease in revenue, a better understanding of the earnings process will help you anticipate the impact of earnings and help you plan your next investment move.
Get ReadyWhat will happen this quarter? Only time will tell. Earnings season kicks off next week on Tuesday, Oct. 7, when Alcoa ( AA) releases their numbers. Analysts are waiting with baited breath to see how companies have fared over the past few months in an economy that's been anything but kind to investors. Good luck this earnings season. TheStreet.com TV: Fund Sage Lipper: Stay Calm Michael Lipper, founder of Lipper Analytical Services and author of 'Money Wise,' offers tips on surviving and even profiting from the current financial crisis. To watch the video, click the player below: