What's the difference? Income is income, isn't it?
It's in the eyes of the beholder. Of course, the IRS wants to collect on all types of income, earned or otherwise. The problem with companies who use investment gains as income is that it is really unearned income that does not reflect the co's ongoing operations. Investors want to apply a multiple (PE) to a co's operating earnings, so if there is a large unearned component, that really blurs the picture. For example, if DELL's operating income was only 16 cents, with 6 cents from cap gains, then investors would want to know that. They could figure out a reasonable multiple for 16 and maybe give a little honey on the side for the 6 cents. But instead, Dell gives a bloated earnings number that people can't figure out. This becomes what is known as a quality of earnings issue.
To go back to your personal analogy (mixture of earned income from job, along with unearned income from cap gains)...if you talk to an insurer, they may be willing to offer you disability insurance based on your earned income, but I doubt they'll offer it on your cap gains. That is because future earned income is relatively predictable, whereas future cap gains are not. In this example, the insurer is like an investor. If a person says they made 100K in 1999, but 50K of it was from daytrading, the insurer is probably only going to care about the other 50K from person's day job.
This is an example only! |
