In-Depth Analysis of U.S. Stocks | Corporate Profits Are Worse Than You Think

“If the economy slows, corporate revenue and profit growth will also decline. We should pay attention to this detail amid the current so-called ‘bull market.’ Many attribute today’s inflated valuations to ‘low interest rates,’ but the reality is a massive divergence between market prices and corporate after-tax profits. The last time this occurred was in 1999.” Figure: Correlation between corporate after-tax profits and the S&P 500 Index Not only are asset prices diverging from companies’ profitability and earnings per share (EPS). As I discussed previously, reported EPS—shaped by corporate operations, stock buybacks, and cost suppression—is highly manipulable. “The trick is well known: revenue can be recognized prematurely—before sales are actually completed—to make a weak quarter look better; conversely, a strong quarter is often when companies book large ‘restructuring charges,’ which otherwise would render financial statements unattractive. But more surprisingly, most CFOs believe such practices remain necessary for reporting corporate performance. When asked about the severity of earnings misrepresentation, respondents in this study estimated it accounts for roughly 10% of reported EPS.” This is also why EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization) fails as an effective measure of a company’s financial strength. “Companies routinely manipulate earnings to deliver quarterly results that ‘beat expectations.’ By drawing on ‘prepayment reserves,’ heavily utilizing accruals, and other accounting tools, they can engineer earnings to hit targets. “As shown in the table, unsurprisingly, 93% of respondents cited ‘stock price impact’ and ‘external pressure’ as key drivers behind earnings manipulation. For fundamental investors, such manipulation skews valuation analysis—especially metrics like P/E ratio, EV/EBITDA, and PEG.” Yet there are four critical points: 1. EBITDA is not the best metric for analyzing cash flow, because it assumes all revenues are collected immediately and all expenses paid immediately—leading to flawed liquidity assessments. 2. Fancy statistical ratios commonly used in the market cannot detect liquidity issues. 3. Compared with the indirect cash flow statement, the direct cash flow statement provides deeper insight into what truly occurs within operating cash flows. Note that the vast majority (over 90%) of publicly listed companies use the indirect format. 4. Like net income, EBITDA is heavily influenced by accounting methods. The final point is the most crucial. As noted above, earnings manipulation techniques are widely known—and they inflate corporate profits, making stocks appear cheaper than they truly are. As Charlie Munger once said: ‘I think whenever you see the term EBITDA, you should substitute the word “bullshit.”’ So what are corporate profits *really*? Currently, the gap between reported earnings and actual corporate profits is among the largest ever recorded. In fact, this anomaly shouldn’t exist at all. There is one company whose approach to calculating corporate profits is particularly intriguing—yet remains largely unrecognized in most analyses. Yes—you guessed it (it’s in the title).

The Intelligent Investor – Earnings Per Share vs. Real Earnings

Chapter 17 of *The Intelligent Investor* Title: Earnings Per Share and Real Earnings I. The Dual Nature of Earnings Per Share (EPS) EPS is the most commonly used metric for measuring corporate profitability: ・Simple to calculate: Net Income ÷ Total Shares Outstanding ・Facilitates cross-company comparisons Yet EPS has a fundamental flaw: it can be “manufactured” through accounting techniques. II. Graham’s Critique of EPS Graham points out that EPS is easily manipulated: 1. Changes in accounting policies—for example, altering depreciation methods—can directly adjust EPS. 2. One-time gains—such as proceeds from asset sales or foreign exchange gains—can be included. 3. Share repurchases shrink the denominator, automatically inflating EPS. III. The Concept of “Real Earning Power” Graham introduces the concept of Real Earning Power: the average earnings over a 5–10 year period, derived under normal operating conditions and excluding one-time items. This is the most reliable figure for assessing a company’s intrinsic value. IV. Why Use a 5–10 Year Average? ・Single-year figures may be distorted by cyclical fluctuations. ・Averaging smooths out the business cycle. ・It also helps assess whether reported earnings are stable and sustainable. V. Case Study: A Common Pitfall A company reports EPS of $5 this year versus $1 last year—a 400% increase! But upon closer inspection: ・Last year was a cyclical trough. ・This year includes a $2 gain from asset disposal. ・After adjustment, true EPS this year is less than $3. Graham warns: never be seduced by seemingly explosive EPS growth—always examine the 5-year average. VI. Traps Associated with EPS Across Different Time Periods

LSB Industries Earnings Beat by $0.06, Revenue Falls Short of Estimates

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LSB Industries reported third-quarter earnings per share of $0.22, beating analyst estimates by $0.06, while revenue of $158.6 million missed consensus expectations.

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