February 4, 2023

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Be prepared for Earnings Season. What you need to know.

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Even those investors who are vaguely familiar
with the market know that ‘earnings season‘ happens four times a year, with
companies updating investors about the quarterly progress. However, many of
these investors will be unfamiliar with the specifics of Earnings Season, and
most won’t know how to assess the reports released by companies.

Since most
companies use jargon and acronyms to describe their financial position, it can
be difficult for investors to discern the factors that can drive the stock
price. Thus, it is essential for investors to understand the terminology and
how to read the reports of a company before investing in its shares.

Below, we
outline why going through the earnings report is crucial, the metrics that
should be tracked in a report, and the qualitative and risk factors associated
with a company’s earnings, using semiconductor maker Advanced Micro Devices
(AMD)
example. 

Why Reading an Earnings Report is Essential 

Learning how to read an earnings report enables
investors to gain more knowledge about a company’s financial health and
understand its potential future earnings and cashflows, leading to better
investment decisions. Additionally, the earnings report helps investors
understand essential metrics such as revenue growth, EBITDA, and earnings per
share, while also helping understand the company’s future based on the guidance
provided by management. 

Publicly listed Companies report earnings every
three months and are required to file 10Q in the US with the securities and
exchange commission, outlining revenues, expenses, and profits, among other
financial information. The dates don’t have to be the same for every company,
but most stocks follow the same earnings report filing schedule, reporting
earnings in March, June, September, and December. Let’s look at key metrics to
track and how they impact the company’s stock price. 

10-Q Form. Example from AMD stock

Important Quantitative Metrics Tracked in an Earnings
Report 

Investors can find the key metrics by looking at
the company’s 10-Q, but this report can often be up to 100 pages. In AMD’s case, its 10Q is over 75 pages, making it hard to track the critical information required at a glance.

To start with, companies can read the
accompanying press release, which tracks key metrics, including revenues, cash
flows, net income, EPS, and dividends, while also outlining a statement from
the executives. It is important to understand that stocks perform differently,
with varying metrics, since they are part of different industries

In AMD’s
case, the company is a semiconductor maker, and its revenues and profits can
vary highly since the industry is cyclical. Here are a few key metrics that can
help track a company’s financial results. Investors interested in buying shares
in a public company and want to make an informed decision should still examine
the company’s 10-Q filing. We’ve used AMD’s most recent quarterly filing, Q3
2022, to measure how it performed. 

  • Revenue/Sales – Revenues,
    which help track the total money brought into the company every quarter, can be
    a useful indicator to understand the growth relative to the previous years.
    Looking at AMD, the company delivered revenues of $5.57 billion, which was 29%
    higher than that of the revenues in the third quarter of 2021. This included
    $1.61 billion from the company’s Data Centre Segment, $1.63 billion from the
    Gaming Segment, $1.3 billion from the Embedded segment, and $1.02 billion from
    the Client segment. 
AMD Stock Financial Statement
  • Profits/EBITDA – While
    revenues help track the total money bought in, shareholders are ultimately
    concerned about the company’s profits, as this is returned through the form of
    dividends/buybacks. Additionally, investors also monitor a company’s EBITDA,
    which measures its operating profit, and can especially be useful when tracking
    companies that are early stage or are currently generating losses. In AMD’s
    case, the company generated profits of $66 million, which was down by 3%
    compared to the prior year, primarily due to the company’s acquisition of the
    $49 billion field-programmable gate array chip maker
    Xilinx
  • Earnings Per Share (EPS) – A key
    metric that Wall Street tracks is the EPS. While EPS may look similar to the
    net profits generated by a company, the EPS is a much better gauge when
    estimating the bottom line. Since companies often issue or buy back stocks, EPS
    reflects the value delivered to shareholders during any specific quarter. AMD
    reported EPS of 67 cents per share, down 10% compared to the previous year,
    which stood at 73 cents. 

Forecasts, Beats & Misses, and Forward-Looking
Guidance 

Looking at the results compared to the previous
years has very little impact on the direction of the stock. What’s more
important are the two factors that help investors gauge the current and future
performance: How a company performed vs. analyst expectations and how
management expects the company to perform in the future. 

  • Estimates vs. Results – Wall
    Street Banks and investment firms employ analysts who tend to produce estimates
    for both revenues and EPS for major companies. The trajectory of a stock price
    greatly depends on how it performs compared to the forecast made by analysts.
    If the results delivered by the company beat the expectations of the average,
    the stock price goes up. Conversely, if those results are worse than the
    average estimates, the stock will lose value. When looking at AMD’s recent
    quarterly earnings, it seems the company missed both revenue and EPS. AMD
    delivered revenues of $5.57 billion, lower than analyst estimates of $5.62
    billion, while AMD’s EPS of $0.67 was a slight miss compared to analyst
    expectations of $0.68.  
Extras from AMD Earnings Report
  • Guidance – In
    addition to reporting their quarterly financial metrics, most companies also
    issue an estimate of what they expect in the next quarter or year. This is
    referred to as ‘guidance’ and will often have more of an effect on the stock
    than what happened in the current quarter. Suppose a company reports better
    results than expected both in terms of revenue & profit, but the company’s
    stock drops after release. In that case, it is usually because the guidance is
    lower than expected. In that case, what happened in the previous quarter is irrelevant, but the prospects for the future count. For the full year, AMD said
    that it saw revenues at $23.5 billion, lower than the $26.3 billion forecast in
    August. 

Despite AMD missing analyst expectations for the
current and future quarters, the company saw its shares move 2.48%, as the
company reaffirmed strong demand from its server chip business. 

Qualitative Factors and Risk 

A detailed snapshot of the company’s earnings is
available through the quarterly filing. There are two specific factors of note
here, namely, the qualitative factors that will drive revenues in the year
ahead and investment risks outlined by the company that can lead to a decline
in the stock price. 

Extras from AMD report about risk
  • Qualitative Factors – The qualitative factors help investors assess why a company beat or missed its earnings and future guidance. This can range from several macroeconomic factors, like supply chain challenges and inflation, to sectors and company-specific factors, like lower demand and higher research expenses. A few factors led to a slowdown in revenue growth and a decline in profits for AMD. While the company had initially anticipated a strong year, weaker demand in the last few quarters has led to the company missing on both earnings and revising its future guidance to report lower revenues. For instance, AMD cited headwinds across the client segment, induced by weakness across the PC market, as the primary reason for missing revenue estimates in the third quarter. The company also said that its gross margins were impacted by the amortization of intangible assets associated with the Xilinx acquisition. In addition, the company’s margins and profits were also affected by supply chain shortages and inflation, which resulted in higher costs. The company also said that it should continue to see growth over the next year based on the strong data center segment, its next-generation Ryzen chips launch, and strong momentum from its gaming business, including the PS5 and Xbox Series consoles. 
  • Risk Factors – Once investors
    have gotten a sense of the company’s financial health, they need to understand
    the risks it may face in the company’s quarter. This includes any pending
    lawsuits, liquidity factors, or general market trends. In AMD’s case, the most
    significant risk is the seasonal and cyclical demand for semiconductors. While
    the company has benefited from higher demands due to a surge in consumer
    electronics, EV, cloud computing, and cryptocurrency mining demand, supply
    could outstrip demand in the future, leading to lower revenues, margins, and
    profits. 

The Income Statement, Balance Sheet and Cash Flow

These are the three most important statements in Earnings Report. In order to learn how to read them, I encourage you to watch the video below:

That was it for now. I hope it will be useful for you! Feel free to ask any question in the comment section.

Happy Investing,

Alex

Recommended Reading:

References

https://ir.amd.com/sec-filings/content/0000002488-22-000170/0000002488-22-000170.pdf

https://venturebeat.com/games/amd-reports-revenue-hit-4-3b-up-55-for-q3-2021/

https://www.investopedia.com/articles/fundamental-analysis/10/decoding-earnings-reports.asp

https://www.cnbc.com/2022/11/01/amd-earnings-q3-2022.html

https://ir.amd.com/news-events/press-releases/detail/1093/amd-announces-preliminary-third-quarter-2022-financial

https://www.nasdaq.com/articles/how-to-read-an-earnings-report-2021-04-23

https://www.thestreet.com/how-to/how-to-read-an-earnings-report

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