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Earnings Outlook Improving

Sheraz Mian

Note: The following is an excerpt from this week’s Earnings Trends report. You can access the full report that contains detailed historical actual and estimates for the current and following periods, please click here>>>

Here are the key points:

  • The picture emerging from the Q4 earnings season is one of steady improvement in the overall picture, with an above-average proportion of companies beating top-line expectations and estimates for the current and coming periods holding up. 

 

  • For the 141 S&P 500 members that have reported Q4 results already, total earnings (or aggregate net income) are down -0.6% from the same period last year on +2.7% higher revenues, with 70.2% beating EPS estimates and 68.8% beating revenue estimates.

 

  • While the proportion of companies beating Q4 EPS estimates is tracking below what we had seen from this same group of 141 index members, the revenue beats percentage is notably above historical periods.

 

  • For the Technology sector, we now have Q4 results from 36.1% of the sector’s total market cap in the index. Total earnings for these Tech companies are down -0.4% on +2.6% higher revenues, with 84.2% beating EPS estimates and an equal proportion beating revenue estimates.

 

  • For the Finance sector, we now have Q4 results from 50.9% of the sector’s market capitalization in the S&P 500 index. Total earnings for these Finance sector companies are up 2.3% from the same period last year on +5.8% higher revenues, with 67.5% beating EPS estimates and 77.5% beating revenue estimates.

 

  • For Q4 as a whole, total earnings or aggregate net income for the S&P 500 index are expected to be down -2.3% from the same period last year on +3.9% higher revenues, with the Energy sector as a big drag on growth.

 

  • Energy sector earnings are expected to be down -47.1% from the same period last year on -3.0% lower revenues. Excluding the Energy sector, total earnings for the index would be up +0.9%.

 

  • Sectors with weak growth in Q4, besides Energy, include Autos (-60.8%), Basic Materials (-22.1%), Aerospace (-46.2%), Industrial Products (-4.2%), Retails (-6.5%), and Transportation (-4.6%). Q4 earnings are expected to be below the year-earlier level for 7 of the 16 Zacks sectors. 

 

  • Sectors with positive earnings growth in Q4 include Utilities (+14.6%), Business Services (+11.0%), Finance (+12.4%), and Medical (+3.7%).

 

  • Positive Finance sector (+12.4% earnings growth on +8.5% revenue growth) is a big help to the aggregate growth picture for the index. Excluding Finance sector, total Q4 earnings for the rest of the S&P 500 index would be down -5.7%.

 

  • The Finance sector’s favorable growth picture in Q4 is solely because of easy comparisons in the insurance industry, with earnings for the industry expected to be up +35%. Excluding the Insurance industry, the Finance sector’s Q4 earnings growth drops to -7.3% (+12.4% with Insurance). 

 

  • For the small-cap S&P 600 index, we now have Q4 results from 84 index members. Total earnings for these small-cap companies are down -1.3% from the same period last year on +1.6% higher revenues, with 65.5% beating EPS estimates and 67.9% beating revenue estimates.

 

  • For Q4 as a whole for the small-cap index, total earnings are expected to be down -6.0% from the same period last year on +0.4% higher revenues, with strong growth in the Finance sector helping offset the Energy sector drag.

 

  • Excluding the Finance sector, S&P 600 earnings would be down -25.0% in Q4. But had it not been for the Energy sector drag, Q4 earnings would be down only -1.9%.

 

  • Estimates for the current period (2020 Q1) are holding up a lot better than would typically be the case in the comparable periods of other recent reporting cycles. Total S&P 500 earnings are expected to be up +4.3% on +5.1% higher revenues.  

 

  • Total 2019 earnings or aggregate net income for the S&P 500 index are expected to be down -1.6% on +2.8% higher revenues, which would follow the +23.2% earnings growth on +7.5% higher revenues in 2018. Growth is expected to resume in 2020, with earnings growth of +8.0% on +4.3% higher revenues.

 

  • The implied ‘EPS’ for the index, calculated using current 2019 P/E of 20.6X and index close, as of January 28th, is $159.39, modestly down from $161.91 in 2018. Using the same methodology, the index ‘EPS’ works out to $172.12 for 2020 (P/E of 19.0X). The multiples for 2019 and 2020 have been calculated using the index’s total market cap and aggregate bottom-up earnings for each year.

 

  • Worries about the duration of the current economic cycle are not reflected in consensus earnings estimates for next year and beyond, with the 2019 growth challenge primarily a function of tough comparisons to last year’s tax-cut driven record earnings.

 

Q4 Earnings Season Scorecard (as of January 29th, 2020)

 We now have Q4 results from 141 S&P 500 members that combined account for 36.4% of the index’s total market capitalization. Total earnings for these 141 index members are down -0.6% from the same period last year on +2.7% higher revenues, with 70.2% beating EPS estimates and 68.8% beating revenue estimates.

The two sets of comparison charts below put the results thus far in a historical context, first the growth rates for these 141 index members.

 

 

 

 

And then the proportion of these companies beating estimates.

 

 

 

 

As you can see above, an above-average proportion of companies are beating revenue estimates at this stage. This has to count as a positive since estimates for the period had not come down as much as had historically been the case. The reasonableness of estimates ahead of the start of this reporting season can be gauged from the EPS beats percentage, which is tracking below historical periods.

An even more significant development this earnings season is the favorable revisions trend with respect to the current period (2020 Q1). Unlike other recent periods when estimates when estimates would have started coming down already, we are seeing an uptick in estimates for the current period, as the revisions chart below shows.

 

 

 

 

It is possible that this favorable revisions trend will shift going forward and go back to its historical trend, meaning estimates for 2020 Q1 will come down. If confirmed through the remainder of the Q4 earnings season, this favorable shift in the revisions trend will be a notable change in the overall earnings picture.

The one sector where Q4 results show a notable improvement in results and outlook is the Technology sector. Plenty of Tech sector reports are still awaited, but the start that Apple (AAPL), Intel (INTC) and even IBM (IBM) have given us has justifiably raised hopes. 

Expectations for the Quarter

The earnings growth trend established in the first three quarters of the year is not expected to change in the last quarter of the year, with tough comparisons to the year-earlier period weighing on growth.

For Q4 as a whole, combining the results that have come out with estimates for the still-to-come companies, total earnings for the S&P 500 index are currently expected to be down -2.3% on +3.9% higher revenues, with 7 of the 16 Zacks sectors expected to have lower earnings relative to the year-earlier period.

The chart below of quarterly year-over-year earnings growth for the S&P 500 index shows estimates for Q4 and the following 4 quarters and actual results for the preceding 4 quarters.

 

 

 

 

The earnings growth picture is expected to change as we turn the page on 2019 given the tough comparisons to tax-boosted earnings in 2018, with growth resuming in 2020 Q1, as the above chart shows. The chart below puts earnings and revenue growth expectations for full-year 2019 in the context of where growth has been in recent years and what is expected in the next two years.

 

 

 

 

The market appears to have accepted the deceleration in growth this year in the hope that growth resumes from next year onwards.

The key issue will be if expectations for next year remain stable or start coming down as we move through the remainder of the year. Analysts have not made any significant revisions to their estimates in response to the ongoing trade dispute, likely in the hope that the issue will eventually get resolved. This, coupled with the ongoing economic weakness in Europe, China and elsewhere likely represent downside risks to the growth outlook.  

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