May 16, 2017

SINA’s Uniform Adjusted EPS’ is growing, not shrinking, and SINA is also far cheaper than traditional P/E suggests


  • SINA’s profitability is materially distorted by accounting for R&D and stock options under GAAP
  • The firm’s UAFRS EPS’ is expected to grow to $4.23 this year, not shrink to $2.10
  • After making the appropriate UAFRS adjustments, SINA is trading at a 5.1x Uniform P/E, which is well below corporate averages and considering material expected profitability growth, further upside may be warranted

 

SINA Corporation (SINA) is expected to release Q1 2017 EPS of $0.25 this morning (5/16), which would represent 14% growth over $0.22 levels in the same period last year. However, full-year 2017 expectations are more pessimistic, and are for 28% shrinkage in EPS, from $2.93 last year to $2.10. Over the past several years, SINA shares have nearly doubled, but remain well below peak levels seen in late-2013 and all-time highs seen in 2011, as the market remains wary of a firm with an above-average valuation and volatile earnings power.

However, after making appropriate adjustments under Uniform Adjusted Financial Reporting Standards (UAFRS), it is apparent that profitability is actually accelerating, and will reach levels well above as-reported EPS, suggesting further upside may be warranted.

Specifically, under UAFRS, Uniform EPS (EPS’) is actually expected to grow over 150% in Q1, from $0.24 to $0.66, well above expected as-reported EPS.  Moreover, full-year EPS’ is expected to rise to $4.23, from $1.81, representing over 100% growth, not shrinkage.  Considering EPS’ is expected to grow significantly faster than as-reported EPS, and reach levels that are well above as-reported EPS, valuations are much weaker than as-reported P/E suggests, implying further upside for SINA is likely warranted.

The quarterly results show a similar trend, with EPS’ rising above traditional EPS last quarter, and expected to remain above traditional levels going forward. Moreover, quarter over quarter growth is expected to remain robust, supporting further upside at current valuations.

UAFRS, Uniform Adjusted Financial Reporting Standards, call for the removal of distortions from issues like R&D and stock option expensing. Once removed, it is apparent that EPS’ is growing much more quickly than as-reported, suggesting the firm is not overvalued, but instead, further upside may be warranted.

UAFRS vs. As-Reported EPS

Investors make major decisions about which companies to own based on quarterly company earnings, the most common metric mentioned in traditional corporate investment analysis.

However, more often than not, the earnings that companies report in any given quarter can swing wildly and lead investors to completely wrong conclusions, because GAAP and IFRS rules force management to report results in ways that are not representative of the real operating performance of the business.

While there is a case to be made that some management teams can use “creative accounting” to adjust numbers, the research would show that more often than not, the real problem is with the accounting rules themselves, not management’s use of them.

Impact of Adjustments from GAAP to UAFRS

There are several adjustments required to make earnings representative of a firm’s true cash flows. For SINA, the most material is related to R&D expenses and stock options.

GAAP and to a lesser extent IFRS (which allows for capitalization of a portion of R&D expense) treat R&D investments as expenses when in actuality these are investments in a company’s future operations. They may be good investments or bad investments, but hard to think of R&D as the cost of goods sold.

In the case of R&D expense, this is often a multi-year investment in a firm’s future offerings.  Expensing R&D violates the basic matching rule of accounting, that expenses should be recognized in the period the related revenue is recognized.  Expensing R&D can also dramatically increase earnings volatility, as the timing of R&D related to multi-year projects can create lumpy earnings volatility, distorting understanding of a company’s real profitability.

Meanwhile, stock option expenses are treated as an expense to the company in accounting statements, when it is actually a way for the company to give employees an ownership stake in the company. As such, this non-cash expense should be treated as a dilution to equity holders and another claim against the Enterprise Value of the firm, as opposed to it being treated as an annual expense. This is especially true as, unless the company uses cash to buy shares (to suppress dilution for equity holders from the option grants being exercised), there is no cash impact on the company.

UAFRS-reporting adjusts for these traditional accounting distortions by treating all R&D as an investing cash flow and rebucketing stock option expenses into the enterprise value of the firm. These simple reclassifications remove a tremendous amount of accounting noise related to investment activities and improve investors understanding of the operating earnings of a business.

Greater-than-reported growth in EPS’ suggests SINA is far cheaper than it initially appears

At current prices, SINA is trading at a 29.7x as-reported forward P/E (Fwd V/E’), suggesting the firm is fairly expensive, especially when considering expected EPS declines.  However, after making the requisite adjustments, it is apparent that SINA is actually trading at a far lower level, which may be unwarranted considering expected profitability expansion.

Specifically, the firm is actually trading at a 5.1x UAFRS-based P/E (Fwd V/E’), which is nearly 0.75x lower than corporate averages. Given expected long-term EPS’ growth, this is likely unwarranted, and should the firm see even just flat EPS’, longer-term outperformance would be warranted.

By using Uniform Adjusted Financial Reporting Standards (UAFRS), investors see a cleaner picture that distorted GAAP and IFRS metrics cannot show. By standardizing financial reporting consistently across time and across companies, corporate performance and valuation metrics improve dramatically. Comparability of a company’s earnings over time, trends in corporate profitability and comparability in earnings power and earnings growth across close competitors and different sectors becomes far more relevant and reliable.

To find out more about SINA Corporation and how their performance and market expectations compare to peers, click here to access the open beta of the Valens Research database.

Our Chief Investment Strategist, Joel Litman, chairs the Valens Research Committee, which is responsible for this article. Professor Litman is regarded globally for his expertise in financial statement analysis, fundamental research, and particularly Uniform Accounting, UAFRS.