Stock Market Basics: How to Read Earnings Reports

We are currently in the thick of earnings season: the time at the end of each fiscal quarter during which a large number of publicly traded companies release their earnings reports. These reports offer a snapshot of a company's financial health, and are an invaluable resource for investors – but only if you know how to read them.

We've created this guide to help novice investors identify and decipher the most vital information contained in earnings reports.

Why do companies issue earnings reports?

All publicly traded companies in Canada are required to disclose their financial performance on a quarterly basis. They do so by filing pertinent documents on SEDAR, otherwise known as the System for Electronic Document Analysis and Retrieval. Typically, companies also issue a press release containing an explanation of their performance over the previous quarter and relevant financial data. On TMX Money, these press releases appear directly on a company's quote page, alongside their most recent financials.

TMX Money also has a comprehensive earnings calendar, which you can use to track when companies will be issuing their report.

What are some key performance indicators in an earnings report?

Earnings reports can be intimidating at first glance; they typically contain a number of acronyms and dense tables of financial data. But, by focusing on a few metrics in particular, you can quickly perform an assessment of a company's health.

Revenue vs. Income

The words "revenue" and "income" are often used interchangeably in everyday life; however, in the context of an earnings report, it's important to understand the distinction between the two.

Revenue refers to the total amount of money generated by the sale of goods and services that are related to the primary operations of the company.

Income, by contrast, refers to the bottom line. It is also known as net income or net profit, and comprises the total amount of money left over from revenue after all expenses have been deducted.

Generally speaking, companies that generate income are financially healthy. That said, there are some exceptions to the rule – startups or companies that spend a great deal to foster growth and innovation, for example.

What is EPS (Earnings Per Share)?

In simple terms, EPS is net income (minus preferred dividends) divided by the total number of outstanding common shares. Because the number of issued shares often changes over time, companies tend to use a weighted average of outstanding shares when performing this calculation.

EPS is one of the most popular indicators of profitability. In essence, it describes the amount of a company's profit allocated to each share of outstanding common stock.

Say, for example, that a company earned a net profit of $5 million in 2016 and $10 million in 2017. It would appear, on the surface, that their profitability doubled. If, however, the number of outstanding shares were to increase during this period from 5 million to 20 million, the EPS would actually have declined from $1.00 to $0.50. This calculation is more indicative of the company's value to shareholders than the increase in profitability.

Though useful, EPS should not be used to make investment decisions in isolation.

Earnings Beat vs. Earnings Miss

Analysts set estimates for metrics like revenue and EPS in advance of earnings announcements. When companies outperform the average of these estimates, it is referred to as an earnings beat. When they underperform, it is referred to as an earnings miss. As a general rule of thumb, a company's stock price tends to go up following an earnings beat, and tends to fall after an earnings miss.

You can find analyst estimates from Zacks Investment Research under the research tab on our quote pages.

TMX Money compiles all of the tools you need to make informed investing decisions in one location. If you're interested in continuing your financial education, we encourage you to visit our glossary of stock market terms.

Stay tuned for future posts on stock market basics from TMX Money, the official financial portal of the Toronto Stock Exchange and the TSX Venture Exchange.

For questions about this article or earnings reports on TMX Money, please email tmxmoney@tmx.com.