One of Saul’s investment philosophies has been that non-GAAP earnings are more useful than GAAP earnings (especially for high growth companies?).
Well, there is a new research paper that has been making the rounds on this very same spirit. The paper is called “Core Earnings: New Data and Evidence”, and can be found here:
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3467814
(Registration to this site if free if you want to download and read the full text.)
In the paper, the professors found that adjusting for certain non-recurring items in the GAAP earnings makes it far more predictive than GAAP earnings on a company’s future growth prospect and stock performance. They showed that by taking advantage of Wall Street not processing this information correctly, the investor can harness up to double digit annual outperformance over the benchmark.
One caveat is that the non-GAAP figures used by equity analysts and companies’ own quarterlies are not the optimal way to go about it either. Part of the issue is that the right items to strip or add (according to their research), may not be easily accessible from traditional data sources, although one can dig out such information by going through 10-K’s in painstaking detail, such as in the footnotes.
But isn’t that in essence what we do on this board already (although not in a purely quantitative systematical way, but in a focused way)?
If you want to see what kind of adjustment to the reported earnings can enhance predictability, you may want to download the paper and give it a read.
Bashuzi