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

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.

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.

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.

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.

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.