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would need to examine the financial statements of the energy companies on this list to see if
there are signs of Enronitis – the hiding of liabilities or mysterious (and unsustainable)
earnings. You may very well conclude that the market’s fears are misplaced and that these
stocks are good investments. With tobacco companies, you will need to do a similar
analysis on potential tobacco liabilities.
Comparisons to Potential Dividends
While comparing dividends to earnings may provide a simple way of measuring
whether dividends are sustainable, it is not a complete test for two reasons. 34
Earnings are not cash f lows : Accountants measure earnings by subtracting
accounting expenses from revenues. To the extent that some of these expenses are
non-cash expenses (depreciation and amortization, for instance) and because accrual
accounting (which is what is used in corporate accounting statements) does not
always yield the same results as cash accounting, accounting earnings can be very
different from cash flows.
• Firms may have reinvestment needs: Even if earnings roughly approximate cash
flows, firms may not be able to pay them out in dividends. This is be...
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This note was uploaded on 01/17/2012 for the course ECON 101 taught by Professor Econnorm during the Spring '11 term at Art Institutes Intl. Minnesota.
- Spring '11