Reporting season: don’t let the numbers get in the way of a good story

Look deeper into results: Hyperion.

Look deeper into results: Hyperion.

Too often investors take reporting season figures at their face value instead of looking deeper to see the real story, says Australian equities fund manager, Hyperion Asset Manager.

As a consequence, they may be making decisions that lead to missed opportunities – whether selling unnecessarily, or missing the chance to buy low in the cycle.

According to Hyperion’s Chief Investment Officer, Mark Arnold, with reporting season just completed the lesson for investors is to be wary of using short term, discrete earnings results as the only – or even the key – indicator of a quality company.

Mr Arnold explained that for Hyperion, when assessing whether or how a results announcement should affect investment decisions, the key question is to not to look at the numbers per se, but at how ‘value relevant’ the information is. That means, to ascertain whether the announcement alters the forecast timing and magnitude of a company’s free cash flow over the long term and/or the general level of uncertainty or risk arising from those cash flow forecasts.

“If reported profit and other related information does not change these factors, then there is no reason for the profit result to have any impact on the valuation of the company or its share price,” he explained. “And it’s important not to forget that looking at results over a number of years can really add value in terms of extra information.”

Mr Arnold went on to explain that market movements outside of reporting season can be relatively more pronounced and can reflect non-fundamental factors such as momentum and speculative activity. Hyperion, as a long-term investor, often discounts these movements if it considers them to be unrelated to the intrinsic value of a stock.

“Sometimes the market can become too focused on short-term or cyclical factors,” he explained. “Look at the massive sell off of Seek Ltd shares during 2008 and 2009 due to concerns about rising unemployment as just one example.

“Having said that, if, during reporting season, the market does drive the share price away from the long-term intrinsic value of a company by ‘over-weighting’ the value relevance of short-term trends, there can be good buying opportunities,” he said.

Mr Arnold finished by saying that reporting season does provide valuable information, particularly in terms of sales and earnings growth and a company’s ability to deliver earnings growth though short-term or cyclical headwinds.

“Nonetheless, at Hyperion, we look for companies with strong and sustainable value propositions, derived from unique and difficult to copy aspects of their products or services. When such a value proposition is present, a company has pricing power, and this gives management the ability to protect long term profit margins and organically grow revenues.

“And that’s the hallmark of a quality company,” he said.

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