The Intelligent Investor (100 Page Summaries) by Preston Pysh & Stig Brodersen

Author:Preston Pysh & Stig Brodersen [Pysh, Preston]
Language: eng
Format: azw3, epub
Publisher: 100 Page Summaries
Published: 2014-02-13T05:00:00+00:00

CHAPTER 12

THINGS TO CONSIDER ABOUT PER-SHARE EARNINGS

CHAPTER SUMMARY

This chapter explains how and why the investor should be cautious about earnings per share. Since they can be manipulated both higher and lower within accounting laws, an average earnings measure of seven to ten years is suggested, to provide a more realistic reflection of earnings. Finally, the chapter addresses the issue that, while it is important for an investor to determine the growth factor from a company’s history, there is no definitive way of determining how many years should be included. Irrespective of the approach used, a more optimistic growth rate would also increase the risk of the investment.

CHAPTER OUTLINE

Here, the reader will find two pieces of seemingly contradictory advice:

Don’t take a single year’s earnings seriously.

If you do, watch for booby-traps in per-share figures.

Graham goes on to explain that “Earnings per share” cannot be taken at face value, and the footnotes must be read to find that, although primary earnings per share were reported at $5.20, net income after special charges was 4.32, and fully diluted after special charges was 4.19.

The “dilution factor” is an allowance for the potential of conversion of a bond issue into common shares.

Special charges carry vagueness and seem to be used at the discretion of management and accountants rather than on a fixed calendar basis. In the case cited (ALCOA), they were for anticipated costs of closing down divisions and plants and other estimated future costs. What some might consider sleight of hand is perfectly acceptable in accounting rules and allows the company to reduce its apparent earnings when they are good. Then, if the actual costs occur in a less successful year, they do not have to be shown, since they have already appeared on the books. In fact in that year, the delayed tax credit can be shown, boosting the earnings.

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