Edward A. Ciancarelli, MBA, MSF, CFA
August 3, 2016
As earnings season is underway for the second quarter of 2016, companies will report to investors how much they earned in the just closed quarter. Sometimes the most important information is not what management highlights but what they may choose to ignore when calculating earnings. This stems from the use of GAAP (Generally Accepted Accounting Principles) to calculate earnings per share. To get from revenue down to earnings, there are a number of accounting rules and managerial leeway that determine what costs are incurred and how they are reported. As famed investor Ben Graham noted, “The more seriously investors take the per-share earnings figures as published, the more necessary it is for them to be on their guard against accounting factors of one kind and another that may impair the true comparability of the numbers.” So, what is the big difference and what should investors know?
It is important that we avoid seeing the world through rose colored glasses. As the economy grinds along, investors would be well served to instead focus on cash flow and how management teams can maximize it for the benefit of shareholders. Our investing framework focuses on a company’s ability to generate free cash flow and how it will grow over time. That is why the old investing adage, “earnings are an opinion but cash flow is a fact” still rings true in today’s market.
 “S&P 500 Earnings: Far Worse than Advertised”. February 24, 2016
 “Investing Red Flag: Pro Forma Results and Share-Price Performance” March 24, 2016