Foundations

# Reported EPS figures may be of no investor value

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I’d noted that Info Edge reported its EPS figures wrong. Unfortunately they may be legally allowed to report wrong EPS figures – because they are allowed to take a “weighted average” number of shares into consideration.

Example: If a company has 100 shares for the first six months of the year, and issues 50 shares more after six months, it will have 150 shares for the last 6 months of the year. (Assuming no other dilution) So if hte company earns Rs. 7,500 in profits, you would think the EPS is Rs. 50 per share (7500 divided by 150). But the company will report it as Rs. 60!

Funda is: The average number of shares for the year is 125 shares (100 for half the year, 150 for the other half). That means the net profits (rs. 7500) is divided by 125 shares instead, to get a figure of Rs. 60 EPS. (For more details on how the calculation works, check this page)

But how good is that to you, the investor? If you consider the EPS of Rs. 60 per share, and expect that the company will grow 20% in the year, what you expect the EPS to be next year? Rs. 72. And based on that you pay a p/E of 20 for the share – paying Rs. 1,200 per share.

Next year the company grows 20%. From Rs. 7,500 in profits it grows to Rs. 9,000 in profits. You rub your hands in glee, practically counting your money from the gains. But, to your dismay, the reported EPS figure is just Rs. 60! The profit grows 20%, but the EPS has not grown at all!!! The share price, looking at this, can even fall lower than the 1,200 you paid – after all, who will want to give a 20 P/E company whose EPS has not grown at all in the last one year?

This is the exact situation with companies that have gone for IPOs last year. Naukri, whose IPO was in November 2006 (Q3), has shown results like so:

Q1: 5.22 cr.
Q2: 3.56 cr.
Q3: 8.1 cr.
Q4: 10.13 cr.

Most of the income has come from the second two quarters, out of which “other income” formed a huge amount (5.3 cr. in the last two quarters). Most of that “other income” would be related to IPO proceeds plus the amounts received as pre-IPO investment in September 06.

Using weighted EPS figures is of little significance here, since the earnings are not equal across quarters. but that’s not the real problem.

Let’s say Info Edge grows by 50% next year. They will then make net profits of Rs. 40.62 cr. next year. That, assuming today’s number of shares (2.7295 cr.), will yield an EPS of 14.88. EPS therefore has grown from today’s value of Rs. 11.31 to 14.88, a growth of 31.6%.

The P/E, at a 14.88 EPS, is a little more than 50. Which, as you can imagine, is much higher than the EPS growth using reported numbers! Even if it has 50% growth, this company is not worth the investment – as the forward P/E (50)is much higher than the EPS growth (32%).

The reported EPS can be plain wrong. Unfortunately not many sites give the kind of information that investors need – like the end-period EPS, which is what I use.

You also need to do this analysis with all companies that have potential dilution – like Mindtree, FirstSource and the like. All these results will not consider end-period EPS.

Further, shares like Tata Steel will have tremendous dilution going forward, so consider that in future result announcements too.

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