Earnings Don't Always Reflect Expectations

By: Ian Campbell | Tue, May 1, 2012
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If you participate in the financial markets, either directly or indirectly, it is important that you understand the role earnings plays in acquisition analysis as contrasted with stock market analysis.

An April 20 article by a Senior Editor at Lombardi Financial is titled Earnings Reflect Expectations - the Stock Market Is Fairly Valued. The article goes on to suggest that based on quarterly earnings currently being reported and are expected to be reported for Q1 2012 that has just ended:

Earnings are a public equities markets driver for a large number of analysts and financial market participants. In the end the financial markets are 'the financial markets' and how those markets price stocks and hence, for financial market purposes, imply point in time values for companies - being the company's market capitalization - can't be disregarded. However, latest reported earnings are rife with conceptual issues from a number of perspectives, including:

This leaves 'reported earnings' as little but a simplistic and unreliable 'value driver' in the 'real world' of corporate merger and acquisition transactions. The one caveat to this is that public company acquirers in their acquisition analysis do (or should) calculate the likely affect an acquisition will have on the acquirer's post-acquisition reported earnings to ensure - to the extent possible - that the acquisition is 'accretive' to its then consolidated earnings. Stated differently, the acquirer works to satisfy itself that it will achieve post-acquisition synergies that will result in the financial markets pricing the acquirer's shares based on earnings analysis at an implied amount greater than the price the acquirer pays for the acquisition target.

While because as an investor you can't disregard earnings reports because the market doesn't, earnings reports are more relevant to short-term investments and trades, and less relevant to long-term investment strategies.

Don't fail to consider that the current financial markets are ever more becoming, or so it seems, driven on a day/day pricing basis by algorithmic and non-algorithmic short-term traders - as contrasted as being driven by long-term holders.



Ian Campbell

Author: Ian Campbell

Ian R. Campbell, FCA, FCBV
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Through the Economic Straight Talk Newsletter Ian R. Campbell shares his perspective on the world economy, the financial markets, and natural resources. A recognized business valuation authority, he founded Toronto based Campbell Valuation Partners (1976), Stock Research Portal (2007) a source of resource companies market data and analytic tools, and Economic Straight Talk (2012). The CICBV* annually funds business valuation research in his name**. Contact him at icampbell@srddi.com.
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