Published October 26, 2012
Alarm bells began to sound on Wall Street this week as Corporate America’s sluggish third-quarter earnings season revealed revenues that are not only shrinking, but badly missing analysts’ tamped-down expectations.
Slammed by the turmoil in Europe and slowdown in China, everyone from chemical giant DuPont (DD) and Xerox (XRX) to economic bellwether UPS (UPS) have disclosed deeper-than-expected sales declines in recent days.
In fact, just 41% of the S&P 500 companies that have reported results so far this earnings season have managed to beat revenue expectations, the lowest level on record, according to McGraw-Hill’s (MHP) S&P Capital IQ.
“If revenue growth turns negative and margins turn down, the bull market is kaput,” Ed Yardeni, president of Yardeni Research, wrote in a note to clients this week.
Those revenue jitters created ripples on Wall Street this week, causing the Dow to plunge 243 points on Tuesday in its biggest one-day tumble since mid-June. Concerns about earnings have helped drive the blue chips down almost 4% since hitting five-year highs in early October.
Chemical heavyweight DuPont crystallized a lot of the problems this earnings season by disclosing a deeper-than-expected 98% nosedive in third-quarter earnings to $10 million.
Further, DuPont said revenue dropped 9% to $7.4 billion, a huge miss compared with the Street’s view of $8.15 billion.
“It’s been pretty grim,” said Christine Short, senior manager of corporate earnings at S&P Capital IQ. “They can cut their way to profits on the bottom line and beat analyst estimates but it’s just not sustainable unless there’s some top-line growth.”
According to Thomson Reuters, just 37% of S&P 500 companies have beaten revenue forecasts. The numbers have been even worse for economically sensitive materials and industrials companies, which have beaten on revenue just 18% and 21%, respectively.
By comparison, 57% of financials and 50% of telecom companies reported stronger-than-expected revenue figures.
“It was not expected to be good and it’s been slightly worse than expected,” said Greg Harrison, corporate earnings research analyst at Thomson Reuters.
Third-quarter revenue is now seen dipping 0.6% year-over year at S&P 500 companies, compared with a tiny 0.1% forecasted increase as of October 1 and projections for 1.9% growth as recently as July.
Eurozone Crisis Dims Revenue
The number one reason companies have listed to explain the revenue declines is Europe, which is grappling with a never-ending sovereign debt crisis that has spread from Greece to larger economies like Spain and Italy.
DuPont said earlier this week that its overall volumes slid 5% last quarter, driven by a 15% dive in Europe, the Middle East and Africa.
Even Apple (AAPL) is suffering from a slowdown in Europe, where its revenue rose 8% to $8.24 billion last quarter, compared with 15% in Asia Pacific and 43% in the Americas.
Not only do companies need to deal with falling demand in Europe, but the crisis has caused the U.S. dollar to strengthen against the euro. That in turn has made U.S. goods less attractive on the continent and hurt sales when they are translated back to the greenback.
At the same time, U.S. companies, especially commodities-related ones, are hurting from the ongoing slowdown in China, which had previously been the global economy’s engine for growth.
The looming fiscal cliff in the U.S. is also hurting confidence as companies are unwilling to invest due to a lack of visibility on their tax bills for early next year.
This confluence of negative storylines has triggered a steady stream of negative guidance from major companies.
As of Thursday, 31 S&P 500 companies had issued negative pre-announcements, compared with just four positives and two that were in line, according to Thomson Reuters.
That represents a negative-to-positive ratio of 7.8 to 1, the worst ratio since Thomson Reuters began tracking the metric in 1996. By comparison, S&P 500 companies typically have a 2.3 to 1 negative-to-positive pre-announcement ratio.
Time to Panic?
Despite these concerning statistics, some warn against overreacting to what was widely expected to be a miserable earnings season.
“People should not be alarmed,” said Scott Wren, senior equity strategist at Wells Fargo’s (WFC) Wells Fargo Advisers. “You want to look ahead. Valuations aren’t excessive.”
Wren said he’s still expecting 2012 earnings growth of 6% to 7% year-over-year and sees no reason to back off Wells Fargo’s call for 2013 S&P 500 earnings per share of about $108.
Yardeni concurs with that cautiously optimistic stance.
“The bottom line on the top line is that it didn’t grow during Q3-2012, but we predict that it will do so in coming quarters,” said Yardeni. “We don’t expect it to fall off a cliff because we expect that the global economy will continue to grow through next year.”