29 June 2023 Equities | US

Equity View: Investors Downshift Views About Earnings Outlooks

By John Tierney
4 min read

Summary

Earnings reports in the past 10 days exhibit a softer tone than much of the Q1 earnings season.
Companies are still reporting handsome beats, but investors are focusing more on weak points and often punishing equities that disappoint.
Consumers are pulling back on discretionary purchases, and consumer staples companies and retailers are struggling to offset weaker volumes with higher prices.
Indications are that more companies are cutting back on IT-related CAPEX and becoming more selective in how they spend those dollars.

Market Implications

We expect the upcoming Q2 earnings season will be more challenging than Q1.

Glass Now Half Empty?

Recent earnings reports have been a mix of good and bad news. On the good side, most companies are reporting revenue and earnings beats, as well as outlooks better than projected. The bad news is that investors expected better – bigger beats and more robust outlooks.

If investors experienced Q1 earnings season with the glass half full, the mood now is that the glass is half empty.

Consumers Are Saying No

On the consumer side, Walgreens Boots (WBA) and General Mills (GIS) said it is getting harder to past on higher costs to consumers.

GIS reported overall beats on price/mix – but more than offsetting declines in volumes.
Unsurprisingly, WBA reported larger-than-expected declines in pharma sales due to lower COVID testing and related meds, but also shortfalls in discretionary purchases that typically accompany picking up meds.

Carnival Corp (CCL) offered a stellar outlook, with record bookings, and new highs in first-time cruise and first-brand categories. Occupancy jumped from 69% to 98%. But EBITDA forecasts disappointed, largely because of rising costs. CCL stock dropped 8% initially, then abruptly rallied 17% as investors focused first on the weak points, then bright spots.

In the tech sector, Accenture (ACN) beat on revenue and EPS but cut the upper range of its revenue forecast because of a shortfall in smaller company contracts. It tried to talk up the opportunities in AI-related consulting, but the euphoria that has buoyed so many other companies in recent weeks failed to materialize – ACN stock is down 7.3% since earnings.

Micron Technology’s (MU) outlook suggested its memory business is improving. MU and its customers have finally worked off excess memory chip inventories accumulated after the US economy started reopening after pandemic lockdowns. MU expects sales of $4.1bn in the coming quarter versus an analyst consensus estimate of $3.87bn. But it also projects continued declines in PC and smartphone demand versus year-ago levels. Consumer electronics has yet to find a bottom. MU also faces pressure from a ban on its products by China.

Data vendor Factset (FDS) reported a solid beat and better-than-expected outlook. But its stock is down 6.9% because the market wanted more.

The one big winner was used car shop CarMax (KMX). KMX earnings were down 8% YoY, but about 80% better than expected. This was largely because of cost controls and indications that KMX is managing the difficult used car market and inventory situation well. Its stock is up 8%.

Bigger Picture Is Cloudy

In summary, with the equity market rally stalling and concerns about the Fed and rates surfacing, we see evidence investors are taking a harder stance on evaluating companies. Meanwhile, more companies report growing issues as consumers deal with inflation.

In the tech sector, it appears more companies are cutting CAPEX and IT expenses or becoming much more focused in how they spend these dollars. Last year many companies were investing in upgrading IT systems and migrating to the cloud. That activity has slowed, and it is starting to affect companies that provide those services.

Q2 Earning Season May Be Tougher Than Q1

Q2 earnings season will kick off in mid-July. We expect overall results to be less robust than Q1. There may still be handsome beats, but investors will likely dismiss many as a product of unrealistic low expectations and focus hard on outlooks.