George R.R. Martin has given life to the phrase "Winter is coming" in his expansive fantasy series
Game of Thrones. However, this phrase seems to have caught on with corporate America as it is being used as a scapegoat for weaker than expected earnings
Alcoa kicked off earnings season after the market close yesterday, the first of many earnings to come out over what seems like an endless parade, blurring the end of one earnings season and the beginning of another. After what has been a stellar period of earnings, corporations are challenged to maintain robust earnings growth. One challenge has been difficult comparisons. Earlier earnings easily hurdled prior weak earnings. But as earnings rose and after implementing financial engineering (read: stock repurchases via low cost borrowing) to continue the strong results, corporations are running out of growth and strategic options to paint a strong picture, all in an effort to justify and add to historic equity levels. Enter the excuse parade, and what better after a difficult winter than to trot out the weather excuse? Is weather a reasonable excuse for poor earnings? If the weather were mild would sales have been more robust? Did this winter more adversely affect U.S. businesses than past winters? Is there a typical winter effect?
The Growth Challenge: Revenue, the Bottom Line
The stock market gets its juice from discounting higher future earnings growth. Without it, earnings are simply an annuity with a value attached to them, the only variable changing is some chosen discount factor. Otherwise, the math is pretty straight forward. For the value of a company to go up, and therefore its stock to rise, earnings forecasts must constantly rise. This is the challenge corporate America faces today. Revenue growth is stagnant, so, corporations elected to reduce the number of outstanding shares to reduce the denominator in the earnings/share ratio to make earnings look better. Once corporations run out of either stock to buy back or cheap money to do it with (what we will be seeing more of as interest rates rise) earnings growth will have to come from somewhere else. This is where we will see if the economy is healing or if the stock market has gotten ahead of itself. To sustain a rising equity market, investors will look to earnings and forecasts to make investment decisions on whether to remain bullish or become more cautious.
Enter the Blame Game
The most convenient excuse for earnings disappointments is bad weather. The problem with this excuse is that when earnings surprise to the upside weather is never trumpeted by CEOs as the reason. At least if this were the case sometimes, investors could buy the excuse for poor earnings. When corporate earnings for companies located in moderate weather climates disappoint it also flies in the face of using the weather excuse. What weather excuse do Californian or Arizonan companies use? Rain? There is currently a drought in California. Floods? There are floods in Arizona every year. This winter the east coast has suffered through a severe winter, to be sure, and weather will be used as a legitimate excuse in some cases. But as winter becomes a distant memory and we move further in to spring those excuses will ring hollow. And what of bad weather every winter? Retail sales dip each year when the weather turns cold and stormy. Is each year identical from a weather stand point? No, they are not. Therefore, companies will continue to use the blame game as it is impossible to compare one year to the next. It would prove extremely difficult to accurately show how much weather affects results from year to year. No baseline exists to look at.
Conclusion: Investor Tolerance
Ultimately, it is up to investors, that put up their hard earned dollars, to decide whether disappointing earnings are an anomaly and are not a cause for concern of a larger problem. Investors will look around and decide if an entire industry has been affected by some common factor and allocate their dollars accordingly. If investors find that certain corporations have been disingenuous about the reason behind disappointing earnings, they will penalize those corporations with their investment decisions.
Alcoa kicked off earnings season after the market close yesterday, the first of many earnings to come out over what seems like an endless parade, blurring the end of one earnings season and the beginning of another. After what has been a stellar period of earnings, corporations are challenged to maintain robust earnings growth. One challenge has been difficult comparisons. Earlier earnings easily hurdled prior weak earnings. But as earnings rose and after implementing financial engineering (read: stock repurchases via low cost borrowing) to continue the strong results, corporations are running out of growth and strategic options to paint a strong picture, all in an effort to justify and add to historic equity levels. Enter the excuse parade, and what better after a difficult winter than to trot out the weather excuse? Is weather a reasonable excuse for poor earnings? If the weather were mild would sales have been more robust? Did this winter more adversely affect U.S. businesses than past winters? Is there a typical winter effect?
The Growth Challenge: Revenue, the Bottom Line
The stock market gets its juice from discounting higher future earnings growth. Without it, earnings are simply an annuity with a value attached to them, the only variable changing is some chosen discount factor. Otherwise, the math is pretty straight forward. For the value of a company to go up, and therefore its stock to rise, earnings forecasts must constantly rise. This is the challenge corporate America faces today. Revenue growth is stagnant, so, corporations elected to reduce the number of outstanding shares to reduce the denominator in the earnings/share ratio to make earnings look better. Once corporations run out of either stock to buy back or cheap money to do it with (what we will be seeing more of as interest rates rise) earnings growth will have to come from somewhere else. This is where we will see if the economy is healing or if the stock market has gotten ahead of itself. To sustain a rising equity market, investors will look to earnings and forecasts to make investment decisions on whether to remain bullish or become more cautious.
Enter the Blame Game
The most convenient excuse for earnings disappointments is bad weather. The problem with this excuse is that when earnings surprise to the upside weather is never trumpeted by CEOs as the reason. At least if this were the case sometimes, investors could buy the excuse for poor earnings. When corporate earnings for companies located in moderate weather climates disappoint it also flies in the face of using the weather excuse. What weather excuse do Californian or Arizonan companies use? Rain? There is currently a drought in California. Floods? There are floods in Arizona every year. This winter the east coast has suffered through a severe winter, to be sure, and weather will be used as a legitimate excuse in some cases. But as winter becomes a distant memory and we move further in to spring those excuses will ring hollow. And what of bad weather every winter? Retail sales dip each year when the weather turns cold and stormy. Is each year identical from a weather stand point? No, they are not. Therefore, companies will continue to use the blame game as it is impossible to compare one year to the next. It would prove extremely difficult to accurately show how much weather affects results from year to year. No baseline exists to look at.
Conclusion: Investor Tolerance
Ultimately, it is up to investors, that put up their hard earned dollars, to decide whether disappointing earnings are an anomaly and are not a cause for concern of a larger problem. Investors will look around and decide if an entire industry has been affected by some common factor and allocate their dollars accordingly. If investors find that certain corporations have been disingenuous about the reason behind disappointing earnings, they will penalize those corporations with their investment decisions.
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