Take stock of your portfolio
It’s reporting season – time to assess your own share holdings
IN the past 12 months the ASX200 index of top Australian shares was up just under
10 per cent.
Despite some short-term volatility, it has been a pretty good result. So good that some experts are questioning whether share prices have streaked ahead of reality.
After all, share prices should reflect the financial health of individual companies.
That financial health is tested at least twice a year through their half and full year earnings results.
For Australia’s listed companies this is their moment of truth.
The 2018 profit reporting season is upon us, where ASXlisted companies let the market know how much money they made last year.
Reporting season is always an interesting, if slightly nerve-racking, time for investors because it’s the most complete and detailed information a company provides on its performance and prospects.
If there is any material change in business conditions between those reporting seasons, the company is obliged to inform the stock exchange.
So now is a great time to properly assess potential stock purchases, as well as evaluate any investment decisions you’ve made throughout the year. But it’s not always easy.
Profit result announcements and annual reports are full of jargon, and things are not always as rosy as they appear. Here’s what you need to know to cut through the noise.
LOOK AT THE BIGGER PICTURE
Most investors reading a company’s annual report and financial statements are looking to glean enough information to decide whether they are a good investment.
Unfortunately there’s no magic calculation to tell you this; you have to assess a wide range of qualitative and quantitative information to form an opinion. Successful investors take a long-term approach to this process.
While profitability and revenue growth are important factors, ask yourself whether these are sustainable over the next three to five years.
Are there internal or external risks that could impact the performance of the company? Does it have a competitive advantage in the marketplace? How much debt does it have, how much does it plan to take on, and how experienced and stable is the management team?
Always remember that it’s in a company’s interests to paint things in the best possible light, so assume the report is biased
and then balance it with your own research and conclusions.
Follow the financial media’s interpretation of results and whether profit and revenue figures are within what analysts expected. If they’re not, then make sure you understand why. Also focus on the commentary attached to the figures which provides an overview of how the company is operating.
FINANCIAL STATEMENTS
Public companies are required by law to comply with relevant accounting standards and list their financial statements with the Australian Securities and Investments Commission within three months of the end of their financial year. The three main financial statements are:
The statement of comprehensive income, detailing revenue, expenses and profit (or loss).
The statement of financial position, which sets out a company’s assets, liabilities and equity.
The statement of cash flows, which lists all cash transactions for the reporting period.
You may also hear these referred to as the income statement, balance sheet and cash flow statement.
These are accompanied by explanatory notes, which can be helpful to shed light on how the accountants arrived at the final figures.
KEY TERMS
These are some of the main accounting terms that every would-be-investor needs to be across. This isn’t an exhaustive list and key terms will often vary depending on the specific business and industry you’re looking at, so do your homework.
Net profit after tax (NPAT):
A measure of how much money the company made after every single expense has been accounted for. While it’s commonly reported, it can be influenced by various accounting practices, so it’s not always a reliable indicator of overall performance.
Earnings before interest and tax (EBIT):
Think of this as NPAT plus interest and tax charges. EBIT is helpful when comparing companies with different tax rates or debt levels.
The company’s profit divided by the number of shares on issue.
The company’s profit divided by shareholder equity (assets minus liabilities). This shows
Earnings per share (EPS): Return on equity (ROA):
ADVICE
BUFFETT’S GOLDEN SHARE RULES
DURING profit-reporting season it’s worth reminding ourselves of the five simple questions the world’s best investor, Warren Buffett, asks himself before buying and assessing a stock for his portfolio:
● Do I understand the business?
Only invest in companies where it’s clear exactly what they do.
● Is it run by people I admire and trust?
Often it’s the quality of the board and that executive team which underpins success or failure.
● Does it have a sustainable competitive advantage?
In today’s business and investment environment, it’s that edge over competitors which translates into success.
● Is it the right price?
Identify a good stock and then patiently wait until its price realigns to a sensible level.
If yes to all the above, then do the deal. In the end it’s all about sticking to quality and spreading your investments over a range of companies on the right track.
the rate of return investors get on the money they’ve invested.
While reading financial statements and annual reports may seem like information overload, the more you do it the better you get at understanding them, and the better you’ll understand the business.