February marks the beginning of the reporting season, and for most companies, it will be their half-year report. Investors gain their first insight into how they have performed to date, as we dissect the key accounts being the Balance Sheet, Profit and Loss, and Cash Flow statements. There is however a growing belief that over the years its relevance in the role of stock selection is reducing, and for some valid reasons.
In an environment where information is frequently shared, and opinions voiced, companies have become better at keeping investors informed by updating the market as developments come to hand.
The Australian Securities Exchange (ASX) also promotes this view of an orderly and informed market for all participants. Under ASX Listing Rule section 3.1 pertaining to Continuous Disclosure it states:
“Once an entity is or becomes aware of any information concerning it that a reasonable person would expect to have a material effect on the price or value of the entity’s securities, the entity must immediately tell ASX that information.”
The importance of keeping the market informed will often lead to companies proactively disclosing details that, if known, would change the perception by the investing public, and therefore most likely its price. Details such as new contracts, distribution chain disruptions, and new key staff appointments are the types of information that can often impact price as it instantly alters the broad view of the business the market held.
One of the more eagerly anticipated pieces of information often provided by companies is the ‘Profit Update’ that can be given at any stage throughout the year, though tends to come after a significant books close date such as the end of a financial year. This tendency has earned the period the colloquial title of ‘Confession Season’ as an early assessment of the profit can be made, and though not fully completed or audited, is still a reliable indicator as to how the company has performed. If this number differs significantly, either positively or negatively, to what the company has previously disclosed or from what the market expects, then they are compelled to disclose this to the market.
These updates can be a source of both exhilaration and disappointment, often leading to significant swings in price to the up or downside weeks before the final numbers are delivered a few weeks later.
So, is the reporting season relevant for investors in an age of increased disclosure and information?
Having witnessed many a confession, and the subsequent over exuberance and pessimism that can come with such announcements, we firmly believe the reporting season is still relevant. We contend that they are crucial for those looking to truly understand the quality of the businesses they seek to invest in. Below are four of the more critical reasons why reporting season is still very relevant for investors:
- The first price reaction is often an overreaction as the market will first shoot and ask questions later. For most DIY investors deciding on the day’s move is often too late, and in and amongst the chaos, often wrong. It is only once you get to see the full set of numbers that you can make an informed decision to buy, hold or sell. Chasing the *pop* often leads to chasing your tail.
- Further to the above, it’s only once you see all the financial data that you can get a full understanding as to how the company performed. What is its Financial Health like? Is the company exposed to manageable levels of risk, or has it stretched itself too far seeking growth? Is there good cash conversion from profits and are they generated efficiently? What are the dividends like and are they sustainable? Only once a company’s full accounts are disclosed can we determine the answer to these vital investment questions.
- While an initial market update will often tell you what has happened and the immediate plans for the future, generally it is only part of the picture. Whereas it’s usually the case that when a company reports during earnings season, they will provide more information on the company’s total performance, not just on a significant event. Understanding all parts of a business paints an accurate picture how things are really traveling.
- All the above points assume that all companies provide earnings updates, but in reality, they don’t. Therefore, in most cases it will be our first view of how a company has performed. Further, full disclosure of accounts allows for a peer review to see how your business is going against others in the same industry and allows investors to benchmark performance, while gaining an insight as to the strength of the broader sector.
So, it is right to a degree that the constant flow of information has made it easier to expect and identify whether a company is going through a purple patch or struggle street. However, it is still only once we get the full picture that the discerning investor can make this decision, based on the facts which ultimately drive long-term company performance. And this can only come at reporting season.
ELIO D’AMATO (@Elio_DAmato)
Elio D’Amato is the Executive Director at Lincoln indicators, a leading boutique fund manager and creator of Stock Doctor share market research platform. www.lincolnindicators.com.au