The Role of Company Earnings Reports in Investment Decisions

August 18, 2023
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Everything is as simple as it is. If the company is doing well, the value of the stock will increase. If it doesn't grow, stock value will decrease. How can we find it out? The answer lies in earnings reports. 

What is an Earnings Report and why does it matter

An earnings report is a document released by a company that details its financial performance over a certain period, typically a quarter or a year. The report includes such information as revenue, earnings per share (EPS), profit and loss statement (P&L), and cash flow.

Earnings reports are crucial because they provide investors with a way to assess a company's financial health. Investors can use the provided information to make decisions about whether to buy, sell, or hold a company's stock.

The timing of an earnings report is significant too. Companies typically release their earnings reports after the close of trading on a specific day. It allows investors to have time to digest the information in the report before the market opens the next day.

Usually, Company Earnings reports include a set of financial statements and related information, though it can vary from company to company. But, in general, they include the following key elements:

  • Income Statement. The income statement, also known as the profit and loss statement, shows the company's revenues, expenses, and profits for the quarter;
  • Earnings Per Share (EPS). This metric represents the portion of the company's profit allocated to each outstanding share of common stock. It is calculated by dividing the net income by the average number of outstanding shares during the quarter;
  • Balance Sheet. It provides a snapshot of the company's financial position and includes the company's assets, liabilities, and shareholders' equity;
  • Cash Flow Statement. It shows the inflows and outflows of cash during certain times;
  • Management Discussion and Analysis (MD&A). This section is typically written by the company's management and provides an analysis of the company's financial results, business operations, and significant events;
  • Forward-Looking Statements. Some earnings reports include forward-looking statements that offer the company's projections, forecasts, or expectations for future performance.

How to read Company Earnings Report

Reading a company's earnings report may seem daunting at first, but with some basic knowledge and practice, you can gain valuable insights into the company's financial performance. To make sure you find everything you need in the report, follow these steps:

  1. Obtain the earnings report. You can find a company's earnings report on its investor relations website, financial news websites, or through financial data providers.
  2. Review the cover page. The cover page typically includes the company's name, reporting period, and key financial metrics, such as revenue, net income, and EPS for the quarter. 
  3. Evaluate Earnings per Share. Compare the current EPS with previous quarters and analysts' estimates to gauge the company's performance.
  4. Study the balance sheet. Review the balance sheet and focus on total assets, total liabilities, shareholders' equity.
  5. Examine the cash flow statement. Look at the cash flow statement to assess the company's cash generation and utilization.
  6. Read management discussion and analysis (MD&A). Pay attention to management's comments on significant events or changes that occurred during the quarter.
  7. Compare with previous reports and peers. Compare the current earnings report with previous quarters to identify trends.

The impact of earnings reports on investment decisions

Earnings reports can have a significant impact on investment decisions. When a company releases its earnings report, investors will analyze the numbers to see how the company is performing financially. If the earnings report is positive, investors may buy the company's stock, believing that the company is doing well and that its stock price will go up. Conversely, if the earnings report is negative, investors may sell the company's stock, believing that the company is not doing well and that its stock price will go down.

Here are some of the things that stock analysts look for in an earnings report:

  • Revenue. It is the amount of money that a company generates from its sales. Investors look at revenue to see how well a company is doing from a top-line perspective.
  • Earnings per share. EPS measure’s company's profitability. It can show investors how much profit a company is generating on a per-share basis.
  • Cash flow. It measures the amount of cash that a company has available to pay its bills and invest in its business.
  • Guidance. Investors should look at the guidance to get an idea of what to expect from the company in the future.

Nonetheless, investors need to remember that earnings reports are just one single factor. Other factors, such as the overall market conditions, should be considered as well when making investment decisions.