This is from the Knowledgebase but I thought I should repost it in light of the recent fiascos with Twilio, The Trade Desk, Okta, etc. I exaggerate a little for the clarity of the message, but what I am saying is essentially all true. I hope you find these ideas useful:
The earnings and revenues estimate game that the analysts play has put the company CFO’s, who give the outlooks, in a no-win situation. Here’s how it has come to work over time: It doesn’t seem to make any difference how good or bad the actual results are, whether they are up 3%, or 30%, or 70%, or more. The only thing that the headlines pick up is whether the earnings beat or missed analysts’ estimates. (Who cares???)
For example, a company whose earnings are up just 3%, but beats estimates by a nickel, will get screaming headlines. The headlines won’t say “ABC earnings only up 3%!” No, the headlines will say “ABC beats estimates!” The price will undoubtedly rise.
On the other hand, a company whose earnings are up 70%, but misses estimates by three cents, will get equally screaming headlines, not saying “DEF earnings up an amazing 70%”, but saying “DEF misses estimates!!!” The price will undoubtedly fall.
The whole estimates game is only about whether the earnings and revenue beat or miss a number that some analysts have picked. It totally ignores the question of how well the company is actually doing, and how good (or bad) the revenues and earnings really are.
However, the companies aren’t stupid. They have figured this out. And they have started to give lower and lower estimates for their next quarter, picking numbers that they are almost certain to beat (by a lot). They don’t want the bad publicity of missing analyst estimates. (Again, who cares!!!)
So what happens? The companies give low estimates and the analysts say “Good earnings, but disappointing estimates for the next quarter. We’re downgrading them from a buy to a hold.”
Thus the companies are screwed whatever they do. If they estimate high, where they think they will be, and miss, they get the “missed estimates” headlines, and if they estimate low, to let themselves beat estimates handily, they get the “disappointing estimates” headline. They lose either way.
How do we as investors deal with this puzzle? Think “How is this company doing? How much are earnings and revenues actually up?” What matters to me is that the company is growing earnings at 50%, and if the company sells off because of an “earnings miss” (which is a ridiculous term for a company increasing earnings by 50%, if you think about it), I might take advantage of it by adding to my position.
I base my purchase decisions on how well the company is doing, and my evaluation of how it will do in the future, and how well its price matches its prospects, rather than whether the company came in two cents above, or two cents below, what the analysts predicted.
Saul
A link to the Knowledgebase for this board is at the top of the Announcements panel that is on the right side of every page on this board.
For some additions to the Knowledgebase, bringing it up to date, I’d advise reading several other posts linked to on the panel, especially “How I Pick a Company to Invest In,” and “Why My Investing Criteria Have Changed,” and “Why It Really is Different.”