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2Q Early Signs: Not Looking Too Good - Earnings Trends

Summary

Expectations for the second quarter 2012 earnings season are coming down as the early reporting companies highlight global growth concerns. A number of the 26 companies that have already reported results -- and many of those that have pre-announced -- have been pointing towards the slowdown in China and problems in Europe.

It is perhaps too early to draw any firm conclusions from the small sample of companies at our disposal. But it would make sense for the earnings picture to deteriorate given the tough macro-backdrop all over the world. There is hardly any place in the world at present that can be described as in good economic shape. Europe is in recession; China, India and Brazil are slowing down; and the outlook for the U.S. economy does not look that favorable, either.

The combination of these macro headwinds is showing up in down-trending earnings forecasts, with current expectations for second-quarter earnings to be up only 0.6%. This is down from growth expectation of 2.3% at the end of May and close to 5% in mid-April. Excluding Finance, this modest growth turns to a 5% decline.

Key Points

  • The second-quarter 2012 reporting season will 'unofficially' get underway next week with Alcoa's ( AA ) results, though 'officially' earnings season started last month, and we have results in hand from 26 S&P 500 companies already.
  • These early reports do not paint a very inspiring picture of second quarter earnings season. Not only do the growth numbers for these companies compare unfavorably to the prior quarter, but the tone of management guidance has also been underwhelming.
  • On the earnings calls and pre-announcements, we are starting to hear a lot more about global growth uncertainties than was the case last quarter. We saw this with the earnings results from FedEx ( FDX ) and Nike ( NKE ) and pre-announcements from operators like Procter & Gamble ( PG ), Ford ( F ) and others.
  • Expectations for the 95% of companies still to report results continue to come down, with total earnings expected to increase 0.6% from the same period last year. This growth expectation is down from 2.3% at the end of May and close to 5% as the first quarter reporting season was getting into high gear in early April. This growth expectation reflects a 0.3% drop in revenue and an 8-basis point expansion in net margins.
  • The Finance sector accounts for most of the second-quarter growth, with earnings in the sector expected to be up 38.1% in the quarter despite the massive trading hit to J.P. Morgan's ( JPM ) earnings. Excluding Finance, total earnings in the second quarter of 2012 will be down 5% from the same period last year.
  • Tech earnings are expected to increase by only 2.04% in the second quarter -- a sharp deceleration from the persistent double-digit quarterly growth trend of recent quarters. This compares to growth of 13.6% in the first quarter. Excluding Apple ( AAPL ), Tech earnings are expected to be down 4.2% in the second quarter. Tech revenue is expected to up 5.3% in the second quarter, after a 10.5% gain in the first quarter. Excluding Apple, Tech revenues are expected to be up 2% in the second quarter following a 5% gain in the first quarter.
  • Full-year earnings for companies in the S&P 500 are expected to total $970.6 billion in 2012 and approximately $1.1 trillion in 2013, representing growth rates of 8.9% and 10.7% for 2012 and 2013, respectively. The current growth expectations for this year and next are down from 9.4% and 12.7% in early April. Total earnings were up 15.2% in 2011 and 44.9% in 2010.
  • Nine of the sixteen Zacks sectors will have double-digit earnings growth in 2012, with Finance expected to grow 24.9%, Tech 13.7% and Construction 53.7%. The weakest sectors are Utilities (down 6.5%) and Energy (down 3.5%).
  • Total revenues are expected to increase 3.2% in 2012 and 4.5% in 2013, after gains of 9% and 8.1% in 2011 and 2010, respectively. Construction is the only sector with double-digit revenue growth this year, with Industrial Products and Medical in the high single digits.
  • The best of the margin expansion trend is now firmly behind us, with second quarter margins expected to be down by 19 basis points sequentially. However, margins are expected to expand by an additional 8 basis points in the second quarter from the same quarter last year. Keep in mind, however, that only 7 of the 16 Zacks sectors will have positive year-over-year margin comparisons, with Finance as the biggest positive driver. Excluding Finance, the year-over-year margin comparison turns negative.
  • For full-year 2012, margins are expected to increase 39 basis points, with Finance as the biggest contributor to the expansion and five sectors experiencing contracting margins. Excluding Finance, margins would be up a much more modest 12 basis points this year.
  • The bottom-up 'EPS' estimates for 2012 and 2013 -- reflecting projections of analysts at brokerage firms covering individual companies -- currently stand at $102.57 and $113.50, respectively. The top-down estimate for 2012 and 2013 -- reflecting the projections of strategists at brokerage firms -- currently stand at $102.87 and $109.88 for 2012 and 2013, respectively. As you can see, the macro analysts are more bearish in their outlook than the micro analysts.

Expectations Still Coming Down

The financial media associates the start of each quarterly earnings season with the release of Alcoa's results, but the reporting cycle always gets underway weeks earlier. Same is the case with the second quarter, with results from 26 companies in the S&P 500 already out.

Total earnings for these companies are up 2% from the same period last year, with a median surprise of 1.5% and only 54% beating expectations. This is a far cry what these same companies achieved in the first quarter of 2012, when they had earnings growth of 9.2%.

It is perhaps too early to draw firm conclusions about the second quarter reporting season, but the early going does not appear very inspiring. And it's not just the growth numbers that don't look that impressive -- the tone of management guidance is also much more downbeat. On the earnings calls and pre-announcements, we are starting to hear a lot more about global growth uncertainties than was the case last quarter. For instance, earnings results from FedEx ( FDX ) and Nike ( NKE ) and pre-announcements from Procter & Gamble ( PG ), Ford ( F ) and others are all pointing to these global growth questions that have been swirling around for awhile now.

It would make sense for the earnings picture to deteriorate given the tough macro backdrop that companies have to navigate. There is hardly any place in the world at present that can be described as in good economic shape. Europe is in recession; China, India and Brazil are slowing down; and the outlook for the U.S. economy does not look that favorable either. The combination of these macro headwinds is showing up in earnings forecasts, which are continuing to come down.

Total earnings are expected to increase 0.6% in the second quarter from the same period last year, a growth rate that is down from 2.3% at the end of May and almost 5% in mid-April. Total earnings are expected to be up 8.9% in 2012 and 10.7% in 2013.

The 0.6% growth expected for the second quarter reflects 0.3% lower revenues and an 8 basis point expansion in net margins. Finance is the primary growth driver in the second quarter, despite the earnings hit at J.P. Morgan ( JPM ) due to the trading loss. Excluding Finance, second quarter earnings growth will be down 5% from the same period last year. Finance is also a major contributor to the full-year earnings growth.

Seven of the sixteen Zacks sectors are expected to have negative year-over-year earnings growth comparisons in the second quarter, while only five sectors had negative earnings growth in the first quarter. Earnings growth at Staples, Discretionary, and Aerospace turn negative in the second quarter.

Earnings in the Tech sector are expected to decelerate sharply from the persistent quarterly trend of double-digit growth rates and increase by only 2% in the second quarter. This compares to growth of 13.6% in the first quarter. Excluding Apple ( AAPL ), Tech earnings are expected to be down 4.2% in the second quarter.

Keep in mind that Apple will single-handedly account for 21.5% of all Tech sector earnings in the second quarter, while Apple's earnings will be 4.1% of the entire S&P 500 earnings in the quarter. For the full year 2012, Apple's earnings account for 23.2% of all Tech sector earnings and 4.5% of S&P 500 earnings. In terms of market cap, however, the tech giant accounts for 4.3% of the index's market cap, bigger than 9 of the 16 Zacks sectors.

Growth Expected - Total Net Income
Zacks Sectors "2Q-12E YoY" "2Q-12E QoQ" "1Q-12A YoY " 1Q-12A QoQ "4Q-11A YoY " "2011A YoY" "2012E YoY" "2013E YoY"
Consumer Staples -6.7% 7.6% 3.6% -10.1% 4.6% 9.2% 3.6% 8.2%
Consumer Discretionary -0.3% 3.5% 6.7% -23.9% 16.1% 20.1% 12.2% 13.7%
Retail/Wholesale 2.3% 6.0% 8.6% -13.6% -0.3% 11.3% 12.6% 11.5%
Medical -3.2% -2.5% -0.3% 6.5% 1.2% 8.0% 2.2% 5.9%
Auto -31.0% -8.1% -19.3% 38.4% -7.3% 6.8% 4.8% 10.0%
Basic Materials -17.2% 3.3% -10.1% 60.8% -12.4% 30.5% -0.9% 19.6%
Industrial Products 14.3% 8.2% 12.8% 13.2% 16.9% 37.3% 14.7% 11.2%
Construction 25.1% 74.2% 128.1% -25.3% 63.3% -4.6% 53.7% 27.9%
Conglomerates 6.3% -0.5% 19.7% 0.4% -75.2% 7.0% 17.2% 11.7%
Computer and Tech 2.0% -4.7% 13.6% -10.8% 30.0% 22.8% 13.7% 13.7%
Aerospace -8.9% -5.4% 13.6% -14.5% 10.5% 11.5% -2.6% 5.7%
Oils and Energy -17.2% -2.1% -3.1% 5.0% 4.0% 35.9% -3.4% 7.5%
Finance 38.1% -18.8% 19.9% 35.9% 25.3% 4.3% 24.9% 10.8%
Utilities -11.1% -7.0% -6.1% 29.2% -0.6% 4.3% -6.5% 9.0%
Transportation 10.6% 22.1% 23.5% -14.7% 16.2% -2.8% 17.4% 14.0%
Business Services 12.5% 7.7% 14.7% -6.3% 12.4% 19.7% 12.9% 12.9%
S&P 500 0.6% -4.3% 7.9% 4.3% 8.6% 15.2% 8.9% 10.7%

Growth Expected - Total Revenue
Zacks Sectors "2Q-12E YoY" "2Q-12E QoQ" "1Q-12A YoY " 1Q-12A QoQ "4Q-11A YoY " "2011A YoY" "2012E YoY" "2013E YoY"
Consumer Staples -9.5% -1.6% 2.9% -9.2% 4.4% 7.4% -6.1% 4.9%
Consumer Discretionary 3.0% 1.0% 8.6% -8.0% 10.9% 12.3% 5.6% 5.8%
Retail/Wholesale 5.4% 3.4% 5.1% -8.0% 7.5% 6.6% 6.7% 4.8%
Medical 9.3% 7.4% 4.6% 0.2% 4.4% 5.5% 8.4% 5.3%
Auto -0.9% 2.7% 4.1% -3.3% 11.3% 18.3% 0.9% 6.8%
Basic Materials 0.1% 4.5% 5.3% 4.7% 7.7% 18.2% 5.8% 6.5%
Industrial Products 10.0% 6.2% 10.9% 4.3% 12.9% 19.9% 8.7% 7.6%
Construction 11.5% 11.8% 17.0% -2.6% 11.7% 4.2% 12.4% 11.0%
Conglomerates 5.4% 6.2% 0.3% -4.4% -2.0% 3.7% 6.4% 6.7%
Computer and Tech 5.3% 0.4% 9.9% -5.9% 11.0% 13.7% 7.8% 9.7%
Aerospace 3.8% 1.0% 8.3% -6.3% 0.8% -1.1% 3.6% 2.7%
Oils and Energy -14.4% -11.6% 4.5% -0.1% 13.8% 22.0% 4.8% -1.6%
Finance -3.4% -8.2% 1.8% 7.8% -10.2% -3.1% -2.6% -5.1%
Utilities 5.2% 2.2% -0.4% 0.5% 4.2% 3.3% 4.6% 3.4%
Transportation 5.1% 6.3% 8.7% -2.8% 10.6% 12.6% 6.9% 8.5%
Business Services 4.1% 2.4% 6.9% -3.2% 7.4% 9.2% 4.4% 5.6%
S&P 500 -0.3% -1.0% 4.7% -2.3% 5.6% 9.0% 4.3% 3.4%

Margins Have Peaked Already

The 0.6% earnings growth in the second quarter reflects a 0.3% drop in revenue and an 8 basis-point expansion in margins. Nine of the sixteen Zacks sectors will have negative year over year margin comparisons, while ten sectors will see margins decline relative to the previous quarter.

The very modest year over year margin gain is primarily due to Finance. Excluding Finance, the margins picture turns negative, both sequentially as well as year over year. Second quarter margins, excluding Finance, are expected to be down 47 basis points year over year and 6 basis points sequentially. For the full year 2012, margins are expected to be up 39 basis points, with Finance as the biggest driver. Excluding finance, full year 2012 margins will be flat from the 2011 level.

The Margins Story
Zacks Sectors 2Q-12E 1Q-12A 4Q-11A 3Q-11A "2Q-11A " 2011A 2012E 2013E
Consumer Staples 11.7% 10.7% 10.7% 11.5% 11.3% 10.5% 11.5% 11.9%
Consumer Discretionary 9.0% 9.5% 10.6% 9.3% 9.3% 8.9% 9.5% 10.2%
Retail/Wholesale 3.6% 3.5% 4.0% 3.4% 3.7% 3.4% 3.6% 3.8%
Medical 12.9% 14.2% 13.4% 14.7% 14.6% 14.0% 13.2% 13.3%
Auto 4.6% 5.2% 3.6% 5.8% 6.6% 4.7% 4.9% 5.1%
Basic Materials 7.3% 7.4% 5.4% 7.7% 8.8% 7.8% 7.3% 8.2%
Industrial Products 9.0% 8.8% 8.2% 8.8% 8.7% 8.4% 8.9% 9.1%
Construction 3.5% 2.3% 2.9% 3.5% 3.2% 2.7% 3.6% 4.2%
Conglomerates 10.2% 10.8% 10.2% 10.4% 10.1% 9.3% 10.3% 10.8%
Computer and Tech 16.1% 17.0% 18.1% 16.3% 16.7% 16.3% 17.2% 17.8%
Aerospace 6.0% 6.4% 7.1% 7.0% 6.9% 6.6% 6.2% 6.3%
Oils and Energy 8.3% 7.5% 7.1% 8.7% 8.5% 7.9% 7.3% 8.0%
Finance 13.0% 14.7% 11.6% 11.2% 9.1% 10.8% 13.9% 16.2%
Utilities 7.0% 7.7% 6.0% 9.8% 8.2% 8.2% 7.4% 7.8%
Transportation 9.9% 8.6% 10.0% 9.8% 9.4% 7.9% 8.7% 9.1%
Business Services 13.1% 12.5% 13.1% 12.5% 12.1% 11.8% 12.7% 13.6%
S&P 500 9.4% 9.7% 9.1% 9.6% 9.3% 8.9% 9.3% 10.0%
Ex-Financials 8.8% 8.9% 8.7% 9.3% 9.3% 8.7% 8.7% 9.2%

Trends in Estimate Revisions

This 'Estimate Revisions' portion of the write-up is still a work in progress at this stage and will likely take some time to reach its final shape. The idea is to give you a real-time insight into trends in earnings estimate revisions, which has a direct bearing on the stock market's movement.

The table below provides two measures -- the percentage change in earnings estimates for 2012 over the last four weeks and a version of the Revisions Ratio. This version of the 'Revisions Ratio' is basically a ratio of the number of positive revisions to the total number of revisions. The aggregate for the index has been weighted by the respective earnings share of each sector. The intuition for the ratio is fairly simple, as a reading above 0.5 means that more than half of all estimate revisions are positive, while a reading below 0.5 has the opposite meaning. As you can see, the measure is at its lowest level in months at present.

Again, we plan to beef up this section in the coming days by providing a more detailed and granular view of estimate revision trends in real time. Feel free to provide suggestions in the comments box at the end of the article.

% Change Last 4 Weeks / Revisions Ratio
Zacks Sectors % Change as of Today 18-Jun 31-May 24-Apr " 3/30/2012 " Rev Ratio as of Today 18-Jun 31-May 24-Apr 30-Mar
Consumer Staples -0.44 -0.23 -0.15 -0.37 1.37 0.19 0.34 0.53 0.48 0.39
Consumer Discretionary 0.50 -0.35 -0.13 0.12 -1.45 0.55 0.38 0.6 0.72 0.37
Retail/Wholesale -0.07 -0.39 1.15 0.67 0.11 0.3 0.41 0.54 0.84 0.71
Medical -0.55 -0.06 0.14 -0.17 0.07 0.33 0.41 0.49 0.67 0.59
Auto -1.84 -0.43 0.51 0.09 0.13 0.03 0.21 0.7 0.65 0.71
Basic Materials -3.57 -1 -0.07 -0.96 -1.39 0.14 0.39 0.53 0.5 0.33
Industrial Products -1.15 -0.73 -0.33 0.44 0.11 0.06 0.42 0.45 0.75 0.74
Construction 14.73 0.5 3.53 2.68 1.18 0.73 0.67 0.57 0.94 0.89
Conglomerates 17.93 -2.2 0.04 0.35 -0.04 0.04 0.55 0.67 0.88 0.46
Computer and Tech -2.54 -1.65 -0.92 1.29 -0.52 0.25 0.4 0.53 0.67 0.52
Aerospace -0.31 -0.06 -0.05 0.03 0.08 0.23 0.4 0.55 0.47 0.33
Oils and Energy -3.12 4.62 -7.83 -5.44 -11.4 0.14 0.25 0.32 0.35 0.39
Finance -1.95 -0.51 -0.21 1.13 0.32 0.29 0.28 0.47 0.71 0.65
Utilities -0.29 -0.47 -1.06 -0.76 -0.51 0.32 0.47 0.36 0.24 0.3
Transportation -0.10 0.86 -0.2 -0.46 -1.85 0.32 0.57 0.37 0.45 0.3
Business Services -0.30 -0.29 0.04 0.11 -0.03 0.12 0.27 0.79 0.67 0.64
S&P 500 -0.60 -0.17 -0.72 -0.08 " -1.03 " 0.25 0.37 0.49 0.61 0.52

Market Cap vs. Total Earnings

The charts below show the share of total earnings for 2012 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. As mentioned earlier, Apple will contribute more to the total S&P 500 earnings this year than nine of the sixteen Zacks sectors. Finance is steadily regaining its prominent position in the index in terms of earnings contribution, though it still remains significantly below its record 27% share of the index earnings in 2007.

S&P Income & Market Cap by Sector
Sales Growth 2012 Income Market Cap
Consumer Staples 7.2% 9%
Consumer Discretionary 3.4% 4%
Retail/Wholesale 7.3% 10%
Medical 11.0% 11%
Auto 1.3% 1%
Basic Materials 3.2% 3%
Industrial Products 2.7% 2%
Construction 0.3% 1%
Conglomerates 3.5% 4%
Computer and Tech 19.3% 19%
Aerospace 1.5% 1%
Oils and Energy 13.1% 10%
Finance 17.7% 14%
Utilities 4.9% 7%
Transportation 1.6% 2%
Business Services 1.9% 3%

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.


The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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