Reporting season wrap
24 Mar 2016
By Shadforth Financial Group
This reporting season, 38 per cent of companies beat their earnings per share estimates, outweighing the 34 per cent that failed to meet their estimates. The remaining 28 per cent met their estimates. Subsequent investor reactions to earnings results were extreme, driven by short covering, high frequency traders and short-term quantitative and earnings momentum factors.
An unusual occurrence was the inverse relationship of share performance relative to earnings changes. As the market tried to see through the bottom of the commodity cycle, we saw further downgrades to miners even while stock prices rallied. The big banks, on the other hand, reported results that were in line with estimates but sold-off as the market continued to worry about potential capital requirements, the housing market and lower margins in the future.
Major themes of this reporting season included capital management, impairments, negative earnings revisions and the continuation of lower margins.
Capital management was addressed in many forms but the biggest topic, though hardly a surprise, was the capital expenditure cuts and cuts to dividends by the miners (BHP cut its dividend by 75 per cent and RIO abandoned its progressive dividend policy).
Dividend payout ratios appeared to stall across the board as earnings growth has not been strong enough to justify dividend increases.
Negative revisions (-1.5 per cent) to earnings also suffered from major impairments given the fall in commodity prices, especially in the commodity and energy sectors. Woolworths also reported large impairment to its Masters business, while REITs and industrials saw minor upgrades as a result of lower interest rates.
Companies continue to see margins fall as they face increasing competition. Revenue growth remains tough and cost-cutting has largely run its course given the past few years of enthusiastic cuts.
We also witnessed domestically exposed companies benefit from the lower Australian dollar, improved consumer confidence and a relatively kinder economic environment as the economy has continued to transition, even if a little sluggishly.
The main sectors
Taking a closer look at the different sectors within the ASX, we saw the big four banks report in-line with expectations, but the regional banks disappointed as they experienced funding pressure, margin compression and increased competition, leading investors to become wary of their future growth.
The building sector continued to benefit from the transition of the economy, especially companies exposed to the eastern seaboard, as housing starts and building permits remained very positive. The outlook remains solid given low interest rates. The sector should also continue to benefit from the transition to road and infrastructure spending from mining capital expenditures.
Consumer stocks were mixed as discretionary spending benefited from lower interest rates, lower fuel prices and higher disposable income and confidence among consumers. Furthermore, the online offshore competition was less of an issue given the fall in the Australian dollar. On the other hand, consumer staples continue to be plagued by margin pressure due to labour costs and price cutting as well as continued competition from offshore players like ALDI and Costco.
Gaming and wagering
Like the discretionary consumer stocks, gaming stocks benefited from a strong domestic casino market as well as an increased number of tourists, despite the wagering sector continuing to experience fierce competition from corporate bookmakers.
Energy and resources
The energy and resource sectors were one and the same, with impairments and cost-cutting continuing. It is likely that both sectors will reduce operating expenses and capital expenditures and that job losses will also continue. The strong organisations will survive and mergers and acquisitions will be a theme as companies try to rationalise and fight to survive or capitalise on the opportunity by acquiring cheap assets in a depressed market.
The net impact on the mining services companies is that in spite of their share prices rallying, they are a value trap that is expected to continue in a cyclical downtrend until a point where we see mining companies start to expand. The risk for these companies remains to the downside, though a few are likely to benefit from the road and infrastructure spend expected by the Government.
The media market remains bifurcated with television and traditional print media continually being cost focused, while online media businesses continue to take market share and look for further growth opportunities abroad. Telstra appears to be facing the same issues: a dying fixed-line business, a slowing mobile market and seeking growth abroad.
The REIT market remained firm and continues to benefit from lower rates and higher property valuations, although the sector does look stretched. Investors may still benefit from the yield but the tailwinds supporting the sector have certainly slowed.
Healthcare has benefited from the strong currency tailwinds but the offshore players seemed to disappoint as the operating environment in global markets became harder to navigate. Domestic players continue to face the threat of changes in government regulations.
The insurance sector was soft but their CEOs are optimistic. They are suggesting the commercial insurance market to bottom, while personal and life insurance can potentially see a modest increase. The health insurance sub sector remains attractive relative to other areas in the Insurance sector.
Overall, company results were better than expected but growth, margins and earnings are likely to remain under pressure. Consequently, market returns are likely to remain crimped given the slower global environment we also find ourselves in.