PDF Tough Earnings Environment - Zacks Investment Research

June 29, 2016

Zacks Earning Trends

Sheraz Mian

SMian@

Tough Earnings Environment

We all know that the corporate earnings picture has been sub-par for a while now, with growth in negative the last four quarters and the trend of earnings declines expected to continue in the Q2 earnings season as well. Another earnings decline this coming earnings season would be the 5th quarter in a row for the S&P 500 index. This reflects not only the drag from the Energy sector and the U.S. dollar's strength, but also maturation of the current earnings cycle that got underway in the fall of 2009.

One relatively encouraging sign that emerged out of the last earnings season was that estimates for the current period (June quarter) didn't fall as much as had been the pattern in the preceding quarters. What this means is that while estimates for the June quarter fell as companies reported Q1 results, but the magnitude of negative revisions was below other recent periods. The turnaround in oil prices from the February 2016 lows and the fading impact of the dollar strength were big contributors to this favorable development.

It will be interesting to see if we will notice a replay of this trend in the Q2 earnings season ? we will be watching how estimates for the September quarter evolve as companies report their June quarter results in the coming weeks.

The chart below shows the weekly reporting calendar for the Q2 earnings season. As you can see, the reporting cycle doesn't really ramp up till the week of July 18th.

Keep in mind, however, that the Q2 earnings season has actually gotten underway already, as companies with fiscal quarters ending in May get counted as part of the



Zacks Earning Trends

June 29, 2016

June quarter tally. We have had results from 15 S&P 500 members already ? FedEx (FDX), Adobe (ADBE), Nike (NKE), Oracle (ORCL) and many others have reported results already. Total earnings for these 15 index members are up +2.2% from the same period last year on +3.3% gains in revenues, with 60% beating EPS estimates and 53.3% coming ahead of top-line expectations.

Estimates for Q2 & Beyond

Total earnings for the S&P 500 index are currently expected to be down -6.1% from the same period last year on -0.6% lower revenues, with earnings growth expected to be in the negative for 9 of the 16 Zacks sectors. The Energy sector continues to be the big drag, but Q2 earnings growth for the index would still be in the negative even on an exEnergy basis.

The chart below shows Q2 growth expectations contrasted with what was actually achieved in the preceding three quarters and estimates for the following four periods. Full-year 2016 earnings growth expectations have now turned negative, similar to what we saw last year.

Many see the Q2 earnings season as the inflection point for corporate earnings, with the growth picture starting to improve from Q3 onwards and turning positive in the back half of the year. The proof of this narrative will become clear in the coming days as more companies report Q2 results and provide color on the evolving business picture.



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Zacks Earning Trends

June 29, 2016

The Report in Full

Companies with fiscal quarters ending in May have been reporting quarterly results in recent days ? 15 S&P 500 members fall in this category, which includes such leaders as FedEx, Oracle, Costco, Nike and others. All of these companies having fiscal quarters ending in May and they get counted as part of the Q2 tally. We will have to wait a few more weeks before the reporting season gets into high gear, but we will have seen results from almost two dozen S&P 500 members before Alcoa reports its results on July 11th.

For the 15 index members that have reported Q2 results, total earnings are up +2.2% from the same period last year on +3.3% gains in revenues, with 60% beating EPS estimates and 53.3% coming ahead of top-line expectations.

The side-by-side charts below compare the results thus far with what we have seen from the same group of 15 index members in other recent periods. As you can see, it is hard to draw any firm conclusions from this sample of results.

For Q2 as a whole, total earnings are expected to be down -6.1% from the same period last year on -0.6% lower revenues. Estimates came down as the quarter unfolded, with the current expected -6.1% decline down from +0.5% growth in early January. But as referred to earlier, the magnitude of negative revisions that Q2 estimate suffered has been below what we have been seeing in other recent periods.

The table below provides a summary view of the expectations for 2016 Q2



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Zacks Earning Trends

June 29, 2016

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.

As you can see in the table above, the Energy sector remains a big drag on the aggregate growth picture. Total earnings for the sector are expected to be down -78.9% from the same period last year on -27.1% lower revenues, which follows the -107.9% drop in the sector's earnings in the preceding period. Excluding the Energy sector, total earnings for the rest of the S&P 500 index would still be in negative.



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Zacks Earning Trends

June 29, 2016

In total, earnings growth is expected to be negative for 9 of the 16 Zacks sectors in Q2, with Basic Materials, Transportation as the other double-digit decliners.

On the positive side, 6 sectors are expected to have positive earnings growth in Q2. These include Autos (+9.2%), Construction (+8.9%), Conglomerates (+12%), Aerospace (+2.7%), Utilities (+20.7%), Medical (+0.3%).

The growth picture isn't that reassuring for the Technology and Finance sectors in the index, with Tech earnings expected to be down -6.4% on +2.3% higher revenue revenues. For Finance, earnings are expected to be down -5.7% on -0.3% lower revenues.

The Context for Growth Expectations

Let's take a look at how consensus earnings expectations for 2016 Q2 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



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