Should securities investors pay attention to quarterly and annual results?
Head of Securities at PSG Wealth, Wendy Myers, explains why long-term investors should not rely only on company results to guide smarter investment decisions
Company financial results – or earnings season – is watched closely by equity investors the world over. Understanding these metrics can offer investors a guide to interpret how a company the investor is invested in is doing in relation to its strategic objectives, as well as providing insights for prospective stocks too.
The information should however be used to spot high-level, long-term trends rather than getting bogged down in intricate financial details. An earnings release shouldn’t trigger knee-jerk investment reactions. It is important to remember that there are many macro-economic factors at play that impact the share price but have nothing to do with how a stock is intrinsically performing in its sector.
Knowing when to hold on to a struggling stock or when to sell
Warren Buffet famously said, “If you aren’t willing to own a stock for ten years, don’t even think about owning it for 10 minutes”. This buy-and-hold philosophy underpins the theory of long-term investing, emphasising that investors need to be comfortable holding a stock through market cycles and not only for short term gains.
Investors digesting financial results must interpret whether a company is performing poorly at its core. Understanding this is critical before making any moves to sell.
Company health checklist
Savvy investors should take note of a few red flags regarding company results. Firstly, an earnings warning could signal that the fundamentals of a company are no longer solid. Secondly, failure to meet analyst expectations for consecutive reporting cycles may indicate that deep structural issues are at play within the company. Lastly, falling market share can suggest a company is not meeting client expectations to clients.
Additionally, the following are some key financial results indicators to track:
- Earnings per share: The go-to indicator for most investors, this metric indicates growth in profitability on a per-share basis. It is a key indicator of the company’s financial health.
- Revenue growth: Consistent revenue growth is a positive sign of business expansion, signaling a healthy, growing business.
- Profitability: Gross profit margin shows how efficiently a company produces its product or service. Net profit indicates overall profitability.
- Return on Equity (ROE): A good indicator to measure how a company uses shareholder investments to generate returns. If ROE is higher than net profit, it suggests good use of shareholder capital and often a good management team.
- Liquidity: Looking at current ratios of assets to liabilities highlights a company’s ability to meet short-term financial obligations. If it is trending higher, it means increased liquidity which is positive.
- Solvency: Debt-to-equity ratio highlights the proportion of debt in a company. In a rising interest rate cycle, lower debt is preferable. A high debt-to-equity ratio indicates higher risk as there is an over-reliance on debt financing.
- Interest coverage: Indicates the ability of a company to cover its interest expense with its earnings – a good financial indicator for long-term financial health.
Being a successful share investor takes work
Successful investors take time to research, look at company numbers, and listen to the news. Notwithstanding this, humans are emotional beings. Our reactions are rooted in feelings towards a situation – which can be dangerous when investing in shares.
A qualified, licensed financial adviser can help you unpack financial results by giving you a contextual lens though which to view the results – which is missing from reading the numbers at face value.
To quote Warren Buffet again, “The best time to invest in shares is yesterday and the second-best time is today”. So, get started on your journey today.
