Zacks Earning Trends

Transcription

1 January 8, 2016 Zacks Earning Trends Sheraz Mian China & the Q4 Earnings Season The ramp up of the Q4 earnings season in the coming days will put the spotlight on the weak state of corporate profitability. Total earnings for the S&P 500 index expected to be below the year-earlier level in Q4 the third quarter in a row of earnings declines. The Energy sector is again the big drag, but there is not much offsetting growth elsewhere either, with earnings growth expectations for 13 of the 16 Zacks sectors in the negative for the quarter. The New Year has brought back the market s China fears, which was a growth market for many U.S. and European companies. We will likely hear a lot about China on the Q4 earnings calls, particularly from companies are heavily dependent on that market for growth. Our takeaway on this question, at the end of the Q3 earnings season, was that quality consumer-oriented operators didn t seem to have much problems in China; we saw that with Apple (AAPL), Starbucks (SBUX), Nike (NKE) and others. Given recent doubts about Apple s growth, it will be interesting to hear what they have to say about China, which has become a growing piece of their revenue stream lately. Also related to the China question is the outlook for oil and other commodity markets that have really been suffering lately. On top of these headwinds, we have the U.S. dollar issue, which has been a recurring theme in recent earnings seasons and will most likely be making another appearance this earnings season well. The only positive in this otherwise unsettling backdrop is the U.S. economic outlook, which has started showing a lot more momentum in the areas that really matter consumers and households. The very strong December jobs report and positive revisions to the prior two-month s data, not to mention steady improvements in wages, gives the economy s core enough thrust to offset the ongoing weakness in the manufacturing and export sectors. While this is a net positive for the consumer-facing sectors, it also means that the Fed will likely come up with the next hike in its gradual tightening cycle during the March meeting. Q4 Earnings Calendar The Q4 earnings season has actually gotten underway, with results from 21 S&P 500 already out (all of these companies have fiscal quarters ending in November that form part of our Q4 tally). Alcoa (AA) is the first index member with the more common December fiscal quarter to report quarterly results; it reports after the close on Monday January 11 th. Overall, we have 12 index members reporting Q4 results next week, which includes J.P. Morgan (JPM), Wells Fargo (WFC), Citigroup (C), Intel (INTC) and others.

2 The chart below shows weekly schedule for how Q4 results will come out. AA 1/11; JPM 1/14 Expectations for Q4 & Beyond Total S&P 500 earnings in Q4 are expected to be down -7.4% from the same period last year on -4.7% lower revenues in Q4, with 13 of the 16 Zacks sectors expected to see an earnings decline from the year-earlier period. Earnings growth for the index would still be in the negative even if exclude the Energy sector drag from the aggregate picture. Estimates came down as the quarter unfolded, in-line with the trend that we have been seeing quarter after quarter for almost three years now. But the magnitude of negative revisions to Q4 earnings estimates was greater than what we saw in the comparable periods for the preceding two quarters. The chart below shows what has happened to 2015 Q4 earnings estimates for S&P 500 companies since the start of the quarter. 2

3 The picture isn t expected to improve in any meaningful way in the coming quarters either, with 2016 Q1 earnings growth currently expected to be down -1.5% from the same period last year. But as we have seen in other recent periods, including in Q4, we will likely see those growth expectations go down further in the coming days as companies report Q4 results and provide weak guidance for Q1 and beyond. The growth picture is expected to improve notably in the second half of the year, with the growth pace accelerating towards the end of the year. Part of the back-half improvement reflects an end to the Energy sector s drag due to easier comparisons for 3

4 that sector. But it s not unusual Wall Street analysts to be optimistic about the outer periods; they start out with a positive tone and start getting realistic only as the period gets nearer. If history is any guide, then we should see those back-half estimates start coming down in the coming months. The Q4 Earnings Season Gets Going The Alcoa report typically gets the credit for kick-starting each earnings cycle. But the reporting season actually gets underway weeks prior to the Alcoa release. That is the case for the Q4 earnings season as well, with earnings reports from 21 S&P 500 members already on the books. All of these 21 reports are from companies that have fiscal quarters ending in November, which we count as part of our Q4 tally. In fairness to Alcoa, it is the first index member with a calendar fiscal quarter to come out with earnings results. Total earnings for the 21 S&P 500 members that have reported results already are down -5.5% from the same period last year on +6.7% higher revenues, with 71.4% beating EPS estimates and only 28.6% coming ahead of revenue estimates. The table below provides the updated Scorecard for the companies that have reported results already: 4

5 Note: Here are few key points to keep in mind while reading this report. a. All the earnings analysis in this report pertains to the S&P 500 index, a handy proxy for the entire business world. We use the index s current membership as the basis for all period comparisons, meaning that even historical periods reflect the index s current membership. b. We divide the corporate world into 16 sectors compared to the official S&P 10 GICS. We have standalone sectors like Autos, Construction, Conglomerates, Aerospace, Transportation and Business Services that provide for a better understanding of trends in these key areas of the economy. c. All references to earnings mean total earnings and not mean or median EPS. d. We make adjustments to reported GAAP earnings to account for non-recurring or one-time items, but we do consider employee stock options (ESOs) as a legitimate business expense. Unlike Zacks, Wall Street and all other data vendors don t treat ESO s as a recurring business expense. This is too small a sample to draw any firm conclusions from, but it is nevertheless weaker relative to what we have been seeing in other recent periods. Specifically, revenue surprises are on track to be even weaker than was the case in the preceding quarter. 5

6 Expectations for Q4 As a Whole Total earnings in Q4 are expected to be down -7.4% from the same period last year, on -4.7% lower revenues. Estimates have been steadily coming down as the quarter unfolded, with the current expected -7.4% decline down from -1.1% at the start of the quarter. The table below provides a summary view of the expectations for 2015 Q4. 6

7 Energy continues to be the big drag, with total earnings for the sector expected to be down -67.0% from the same period last year on -37.9% lower revenues. Excluding Energy, total earnings for the rest of the index would be down -2.2% on -0.3% lower revenues. In addition to Energy, four other sectors have double-digit earnings declines. These include Industrial Products (-23% decline), Consumer Staples (-10%), Basic Materials (-30.2%) and Aerospace (-10.8%). In total, earnings growth is expected to be negative for 13 of the 16 Zacks sectors. Finance is expected to be a growth contributor, with the sector s earnings expected to be up +5.4% from the same period last year. Easy comparisons for Citigroup are a big reason for the sector s positive looking growth numbers. Excluding Citigroup, the sector s Q4 growth drops to -0.5%. If we exclude Finance from the S&P 500 sector, total earnings for the index would be down % from the same period last year. 7

8 For the all-important Technology sector, Q4 earnings are expected to be down - 3.9% on +1.4% higher revenues, with strength in the software/internet spaces offset by negative in the hardware and semi-conductor industries. For the Telecom space, which is part of the Zacks Tech sector, we have strong doubledigit earnings growth among the service providers (AT&T and Verizon) and weak growth among the equipment makers. Other sectors with positive growth include Medical (+3.4%), and Transportation (+13.3%). The Context for Growth Expectations Let s take a look at how consensus earnings expectations for 2015 Q4 compare to what companies earned in the last few quarters and what they are expected to earn in the coming quarters. Table 2 below presents the year over year quarterly earnings growth rates actuals as well as estimates. Table 3 presents the same data for revenues. Table 2 Earnings Growth Context 8

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10 Table 3 Revenue Growth Context 10

11 The next two tables present the same data in a different format instead of year-overyear growth rates, we have the dollar level of total earnings and revenues for each of these quarters. Table 4 Total Quarterly earnings 11

12 Table 5 Total Quarterly Revenues It may be obvious, but it s still useful to explain what we mean by total earnings. This means the sum of net income for all companies in the S&P 500. For historical periods through 2015 Q3, we have taken the total earnings (net income, not EPS) for each company in the S&P 500 and added them up to arrive at the sector and index level totals (we do adjust reported GAAP earnings for non-recurring items, but consider employee stock options as a legitimate business expense). For the coming quarters, including Q4, we have taken the Zacks Consensus EPS for each company in the index, multiplied that by the corresponding share count (from the last reported quarter) to arrive at the total earnings for each company. And then we aggregated them to arrive at the totals for each sector and the index as a whole. The 12

13 lack of accuracy in real-time share count notwithstanding, this gives us a fairly accurate view of the total earnings picture. In plain language, what Table 4 tells us is that companies in the S&P 500 earned $277.6 billion in 2015 Q3, $280.1 billion in 2015 Q2 vs. $267.5 billion in 2015 Q1 and $289.7 billion in 2014 Q4. The overall level of total earnings has been very high in recent quarters. In fact, the 2014 Q4 all-time quarterly record isn t expected to be surpassed till the 2016 Q3 quarter. The chart below shows the index s quarterly earnings totals on an ex-energy basis. The next table shows the PEs and EPS for the index. As you can see, the index is expected to earn EPS of $ this year on a bottom-up basis and $ on a topdown basis. 13

14 The Margins Picture The table below shows net margin expectations for Q1 in the context of where they have been and where they are expected to go in the coming quarters. 14

15 Table 6: Quarterly Net Margins The table 7 below shows net margins on a trailing four-quarter basis. So, the 10.3% net margin for 2015 Q3 reflects estimates for Q3 and actuals for the preceding three quarters, and so on. 15

16 Margins follow a cyclical pattern. They expand as the economy comes out of a recession and companies use existing resources in labor and capital to drive business. But eventually capacity constraints kick in, forcing companies to spend more for incremental business. At that stage, margins start to contract again. We may not be at the contraction stage yet, but we do need to buy into fairly optimistic assumptions about productivity improvements for current consensus margin expansion expectations to pan out. Market Cap vs. Total Earnings The charts below show the share of estimated total earnings for 2015 as well as the share of total market capitalization for each of the 16 Zacks sectors. Since the S&P 500 is a market-cap weighted index, each sector s market cap share is also its index weight. The Finance sector is about even with the Technology sector in terms of earnings contribution even though it carries a smaller weight in the index. Unlike the S&P 500, the Finance sector is biggest market cap and earnings contributor to the Russell 2000 index. 16

17 % Share of Mkt Cap Consumer Stapls 8.5% Consumer Discrt 5.7% Retail 9.7% Medical 14.3% Auto/Tires/Trks 1.2% Transportation 2.1% Utilities 3.0% Business Svcs 3.4% Industrial Prod 1.8% Basic Materials 2.3% Construction 0.7% Conglomerates 3.3% Finance 16.2% Computer & Tech 20.1% Oils/Energy 6.2% Aerospace 1.7% 17

18 Consumer Stapls 6.5% Transportation 2.8% Utilities 2.9% Consumer Discrt 5.4% Share of 2015 Income Retail 7.1% Medical 14.0% Business Svcs 2.7% Industrial Prod 1.8% Auto/Tires/Trks 2.2% Basic Materials 2.7% Construction 0.7% Conglomerates 3.1% Finance 21.1% Computer & Tech 20.4% Oils/Energy 5.0% Aerospace 1.7% Want more information about this report or about Zacks Investment Research? Contact Terry Ruffolo at or at Visit the Zacks Media Room at zacks.com/media-room Disclosure: This material is being provided for informational purposes only and nothing herein constitutes investment, legal, accounting or tax advice, or a recommendation to buy, sell or hold a security. No recommendation or advice is being given as to whether any investment or strategy is suitable for a particular investor. It should not be assumed that any investments in securities, companies, sectors or markets identified and described were or will be profitable. All information is current as of the date of herein and is subject to change without notice. Any views or opinions expressed may not reflect those of the firm as a whole. 18