UK: EDITORIAL; IT IS TIME TO BURY EARNINGS PER SHARE.

UK: EDITORIAL; IT IS TIME TO BURY EARNINGS PER SHARE. - 'But will it dilute earnings?' The question has been asked too often in this country, both in boardrooms and by commentators. This focus on earnings per share is misplaced. It is also damaging. Fort

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Last Updated: 31 Aug 2010

'But will it dilute earnings?' The question has been asked too often in this country, both in boardrooms and by commentators. This focus on earnings per share is misplaced. It is also damaging. Fortunately, it's beginning to be recognised that earnings are a neat if inadequate reference point rather than a driving force for corporate decision-making. Any company which continues to trumpet its earnings-per-share growth, to the exclusion of other measures, should now cause eyebrows to rise rather than its share price.

The flaws in earnings per share as the key performance indicator are many. It is open to accounting interpretation - manipulation is the less charitable expression. It also offers a very distorted guide to the effectiveness of a company's use of capital, enabling cynical (or possibly innocent) managements to lay spurious claim to growth when it is in fact underpinned by technically cheap but value-destroying acquisitions. The chief strength of earnings per share lies in its apparent simplicity.

A headline cash-flow figure is not capable of similarly elegant expression. It requires sensitive interpretation of the difference between capital expenditure which creates additional value and that which simply replaces old equipment. Nevertheless, it is far more worthy of attention than earnings per share, both inside and outside a company. Managers who do not thoroughly understand the ability of their businesses to generate cash will increasingly find the weakness of their decision-making exposed.

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