Watch Out for Misleading Reports of Earnings

Have you ever read a corporation's quarterly earnings report that stated,  "We had a terrible first three months. Prospects for our Company are turning down due to inefficiencies in the home office. Our competition just came out with a better product, which will adversely affect our sales. Furthermore, we are losing our shirt on the new midwestern Operation, which was a real blunder on management's part." No! Here's what you see. "Greatshakes Corporation reports record sales of $7.2 million versus $6 million (+ 20%) for the quarter ended March 31." If you own their stock, this is wonderful news. You certainly are not going to be disappointed. You think this is a fine Company (otherwise you wouldn't own its stock), and the report confirms your thinking.

Is this record-breaking sales armouncement a good report? Let's suppose the Company also had record earnings of $2.10 per share of stock for the quarter. Is it even better now? What if the $2.10 was versus $2 (+ 5%) per share in the same quarter the previous year? Why were sales up 20% and earnings ahead only 5%? Something might be wrong—rnaybe the company's profit margins are crumbling. At any rate, if you own the stock, you should be concerned and evaluate the Situation closely to see why the earnings increased only 5%. Most investors are impressed with what they read, and companies love to put their best foot forward. Even though this corporation may have had all-time record sales, up 20%, it didn't mean much. You must be able to see through slanted published presentations if you want the vital facts.


The key factor for the winning investor must always be how much the current quarter's earnings are up in percentage terms from the same quarter the year before! Let's say your Company discloses that sales climbed 10% and net income advanced 12%. This sounds good, but you shouldn't be concerned with the company's total net income. You don't own the whole organization.

You own shares of stock in the corporation. Perhaps the Company issued additional shares or there was other dilution of the common stock. Just because sales and total net income for the Company were up, the report still may not be favorable. Maybe earnings per share of common stock inched up only 2% or 3%.