When earnings surprise

Ever wondered what jargons such as “beat the street” and “trail the street” used by analysts and business journalists alike mean?

These terms are used when a company’s actual performance is different from market expectations, leading to what is known as earnings surprise.

Stated simply, earnings surprise occurs when a company’s actual earnings (net profits or earnings per share (EPS) on a per share basis) differ from “consensus” or “street” estimates. Consensus earnings estimates refer to the average or median profits, forecast by analysts tracking the stock.

Better actual earnings than consensus estimates lead to positive earnings surprise, with the company said to have “beaten the street”. On the other hand, actual earnings below consensus estimates result in negative earnings surprise, and the company is said to have “trailed the street”.

Auto major Mahindra & Mahindra was among the street beaters, while oil and gas behemoth, Reliance Industries, was among the companies to disappoint the street in the recent September quarter results.

Why they occur?


Earnings surprise can have their genesis from a variety of reasons. These range from complexities and pitfalls in forecasting earnings to unexpected changes in the market conditions and/or companies’ situation which may not be fully factored in the analyst estimates.

Also, the consensus estimate may be skewed by extreme estimates, when stocks are tracked by only a few analysts.

Effect on stock prices


Earnings surprises can have peculiar effects on stock prices vis-À-vis performance. Companies may post what might otherwise seem as healthy earnings growth. However, counter-intuitively, the stock may still be punished on the bourses, as the growth did not meet higher consensus estimates. Larsen and Toubro, for instance, saw its price dip, despite growing profits by more than 26 per cent in the recent September quarter.

Likewise, prices of stocks which post losses may still rise, since the losses were not as bad as expected. Case in point: Bharat Petroleum’s stock price rose, post announcement of a lesser-than-expected loss.


Ceteris paribus, stocks that register positive surprise usually witness an increase in prices, while those with negative surprise have their prices beaten down.

This was witnessed in the upward movement of the Mahindra and Mahindra share price, and decline in Reliance Industries’ share price, post-recent results announcement.

It would take uncanny coincidence for company earnings to exactly match analyst estimates. Hence, minor earnings surprises are generally considered in-line with estimates.

Consequently, earnings surprises have meaningful impact on the stock price only when the divergence is significant. Intuitively, the bigger the surprise, the higher the impact on the share price.

‘Cockroach’ effect


Financial market research (Ball and Brown) indicates that stocks with earnings surprises tend to drift away from the market — positive and negative surprise stocks tend to outperform and underperform the market respectively over an extended period after the earnings announcement. This is known as post-earnings announcement drift.

Another important theory about earnings surprises is that they seldom occur in isolation.

Just as cockroaches are joined by more of their ilk in quick succession, earnings surprises tend to exhibit serial correlation, with positive and negative surprises followed by more of the same in the future.

Signalling mechanism


The above behavioural finance-driven phenomena are considered major market anomalies and used in portfolio strategies by seasoned investors and traders. Thus, earnings surprise might serve as a signalling mechanism to help identify stocks which may generate superior returns compared with the market.