Which different groups are interested in company accounts

Financial journalists write extensively about companies. Companies that are growing, companies that are contracting, companies that are taking over other companies, companies that are going bust. They tend to approach company affairs from one of two angles (or, most usefully, from both). Take two examples:

‘Mark Hustler, the thirty year old accountant who took charge at Interpersonal Video Systems earlier this year, has not let the grass grow under his feet. Following the purchase of Insight Compact Discs in June he plans a further important acquisition in the interpersonal systems field to consolidate the company’s lead in this fast growing business. The shares are acquiring a strong institutional following and at l8Op up from 6Op earlier this year look one of the best bets in the high technology sector.’

What do we deduce from this? First, that the writer thinks Interpersonal Video Systems is a good thing, because he is advising you to buy the shares. Secondly, that he is suggesting the investing institutions are buying the shares, which should help the price to rise. Thirdly, that the shares have already risen strongly, presumably since Mark Hustler took charge. Fourthly, that Mark Hustler is expanding his company by buying other companies. Fifthly, that the company is a leader in interpersonal systems and that these are a high technology area.

Finally, we might suspect that the writer probably hasn’t the faintest idea what an interpersonal video system is, whether it is a growth business, whether Mark Hustler is paying too much or too little for the companies he is acquiring or who the institutions are that are supposed to be following the company. In other words, the writer has clearly had a tip. It’s not necessarily to be sneezed at. If enough people follow the tip and buy the shares because they think they are going up, they will go up. For a time at least.

‘Interpersonal Video Systems, the manufacturer of visual sales aids for the toothpaste industry, reports turnover up from £18m to £27m for the year to end March. Pre tax profits have risen from £2m to £4.3m, including a first time contribution of £1.5m from Insight Compact Discs, acquired for shares last June, and earnings per share are up from lOp to l2.5p on the enlarged capital. If the company meets its target of 15 per cent a year internal growth, the 25p shares at l8Op are on a prospective PE ratio of only 12.5, which is below the sector average. They look undervalued.

In fact, the message from the second writer is essentially the same as that from the first: the shares should be bought. Not because Mark Hustler is a great guy, not because another important acquisition is planned, not because institutions are rushing to buy the shares. But because the conventional investment arithmetic says that they are cheap. We also learn roughly what Interpersonal Video Systems does and we have an indication that it probably didn’t pay too much for Insight Compact Discs.

Neither approach is totally satisfactory on its own. It is useful to know who runs a company. It helps us to get a feel for the operation if we know it plans expansion via take over. It is useful to know (if, in fact, it is true) that institutions are investing in the company. But it is also useful to know what it does, how much it earns and how it is rated on accepted investment criteria.

Phrases like ‘PE ratio’ and ‘earnings per share’ are part of the currency of the investment business. But what do they mean? This requires a gentle incursion into company accounts.