The robust earnings growth recorded in the fourth quarter came as a welcome relief to those who had been made anxious by downbeat forecasts. But as the earnings season wraps up, corporate guidance for earnings growth in the first quarter of 2013 is on track to be the most bearish in more than 11 years.
Now that 95% of companies in the S&P 500 index have reported their earnings, last week marked the final big week of the fourth-quarter earnings season. While the earnings growth rate of 6% represents a healthy improvement over the 1.9% growth that analysts had been forecasting at the beginning of the reporting period, and revenues have been roughly double the 1.8% estimate, coming in at 3.7%, anxiety about what lies ahead continues to grow. The fourth-quarter reports from retailers last week didn’t help, as even those that announced solid earnings and revenue were very conservative when it came to providing guidance about first quarter results. Indeed, the negative outlooks with which companies provided both their shareholders and analysts last week further increased the ratio between negative and positive guidance to 4.5 to 1.
The Consumer Discretionary sector has been one of the major drivers of fourth-quarter earnings, posting a growth rate of 9.7% over the fourth quarter of 2011. A strong holiday shopping season showed that consumers were willing to set aside their anxiety about the prospect of higher taxes in the new year, at least for the time being, and continue to spend. This was confirmed last week, when 11 of the 14 Consumer Discretionary companies that reported their results for the period announced earnings that were higher than analysts had forecast. Among them were many of the major retailers; indeed, with the notable exceptions of JC Penney Inc (JCP.N) and Target Corporation (TGT.N), the retailers that reported this week posted positive earnings surprises, while Target’s earnings only fell short of estimates by a penny. JC Penney was the outlier, shocking the market by posting a loss of $1.95, many times the analysts’ consensus of a loss of 18 cents a share. Clearly, almost no one seems to have been prepared for the revelation of the extent to which the retailer has failed in its attempt to retain the loyalty of its existing consumers, as it has eliminated the majority of the discounts that had won that loyalty, and shifts to a ‘store within a store’ concept, which has yet to attract many new fans.
The Consumer Discretionary companies that offered guidance last week tended to report higher-than-expected earnings and solid revenue growth for the fourth quarter. Nonetheless, they proved to be very conservative in their projections for the first quarter. Of the six that offered such guidance last week, five of them suggested analysts and investors should expect results that come in below the prevailing consensus estimate. While they attributed this wariness to the impact on consumers of the tepid economic recovery and high unemployment, many Consumer Discretionary companies also cited additional headwinds to consumer spending in the first quarter in the shape of the delay in tax refunds has deprived consumers of cash. That means that shoppers who once might have taken those refunds and funneled them into purchases of a new flat-screen television or other high-ticket purchase at Target or Wal-Mart Stores (WMT.N) now are forced to delay those purchases, possibly until the second quarter. Moreover, by the time those refunds do arrive, shoppers will have felt the full impact of higher payroll taxes for a longer time. Those taxes, eating into discretionary income week after week, may alter their behavior, making them more cautious about spending those refunds and increasingly price sensitive when they do, as well as when they shop for groceries and other routine purchases.
Dollar Tree Inc (DLTR.O) is one of the retailers to benefit from this kind of trade-down effect as shoppers seek out bargains. The company’s earnings grew in the fourth quarter by 26%, beating analysts’ forecasts that it would earn 99 cents a share by posting actual earnings of $1.01. In spite of that solid performance and positive earnings surprise, the company’s management suggested that first-quarter earnings would be 4% below analysts’ estimates. During the conference call held to discuss the fourth-quarter results, CEO Bob Sasser explained that the company views the U.S. consumer as “burdened and concerned” by both higher taxes and rising gasoline prices.” Overall, Sasser says, shoppers have “less money to spend, and you add to that job concerns and uncertainty that everybody sees out there right now. But at Dollar Tree we think of ourselves as part of the solution.”
The downbeat outlook that companies provided last week has increased the negative to positive guidance ratio to 4.5. If this ratio remains at such a high level, the earnings outlook will be the most bearish that companies in the S&P 500 have provided in more than a decade, since the third quarter of 2001. Together, the negative guidance from companies themselves and downward estimate revisions by analysts have pushed the earnings growth estimate for first quarter growth down to 0.9% as of the end of last week, from 1.5% as of the end of the previous week.
The effect of all this negativity may be to lower the bar for first quarter results. Still, clearing a low bar that may not represent much of an achievement for the companies in question. The first quarter could prove to be one in which even a large number of positive earnings surprises could still generate a disappointing earnings growth rate, as long as those expectations remain low enough.