DON’T PANIC: During this earnings season,investors’ attention is often focused on whether the companies they follow miss or beat analysts’ consensus earnings forecast. In cases of consensus misses,many investors sell the stock.
This is often a hasty reaction. A single miss is not very meaningful.
As the chart below (from my book, The End of Accounting and the Path Forward for Investors and Managers,Wiley 2016) shows, regular consensus misses (between 1-3 cents per share) cause the share price to decrease, on average, by 1.5-2.0%. Far from a catastrophe (lower curve of chart).
Beating the consensus will get you about 0.5% (top curve of chart). Again, not a big deal.
Before you decide to act on a consensus miss or beat, check carefully the FUNDAMENTALS of the business, to see whether the miss indicates a serious deterioration in the business. For example, for subscriber-based companies (telecom,Internet,media,etc.), look at the record of new subscribers in the quarter and the churn rate (subscriber deletions) to see if there was a significant decrease in new subscribers and increase in the churn rate. This will indicate changes in fundamentals. This information is sometimes included in the earnings release and/or in the earnings conference calls.
Changes in the sales growth,net of acquisitions, will also indicate shifts in fundamentals.
Number of new policies and policy renewals for insurance companies are also fundamental indicators.
So, my message is: The business fundamentals are more important than the quarterly earnings record relative to the consensus.