Earnings May Not Validate Recession Fear
If the economy is slowing sharply, that should show up in weak corporate earnings.
But U.S. blue-chip companies overall are projected to post double-digit profit growth in the third quarter, continuing the strong trend since 2003.
As earnings season kicks off this week, the list of companies that analysts believe are on track for hefty profit gains includes retailer Kohl’s Corp., insurance giant Allstate Corp. and industrial conglomerate United Technologies Corp.
Results from those and other firms in the latest period are expected to offset a slowdown in growth at energy companies as oil prices plunged, and relatively poor numbers in the struggling technology sector.
The further fattening of the corporate bottom line suggests that the economy, at least apart from housing, hasn’t slowed nearly as much as some experts had projected.
“For all the recession theorists out there, the elephant in the room is very strong expected earnings growth rates for this year and next,” said Dirk Van Dijk, an analyst at Zacks Investment Research in Chicago.
That profit strength, if it materializes, could underpin the stock market, which has been rallying since mid-July.
But it also could help convince the Federal Reserve that the economy remains healthy enough to warrant holding interest rates steady instead of cutting them, said John Lonski, an economist at Moody’s Investors Service in New York.
“The rise in corporate earnings tells the Fed that companies won’t have any inclination to cut back capital expenditures or hiring,” he said.
Companies in the blue-chip Standard & Poor’s 500 index are expected to post average operating earnings growth of about 14% in the third quarter from a year earlier, based on estimates from Wall Street analysts.
That would be the 18th consecutive quarter of double-digit growth, and would be up slightly from 13% in the second quarter, S&P; says.
For 2007, analysts expect a 12.8% rise in S&P; 500 operating profit, according to Zacks. Operating earnings are results excluding one-time gains or losses.
Earnings crashed in 2001 amid the recession of that year, and they recovered slowly in 2002. Beginning in 2003, however, profit began to rocket as the global economy surged and companies’ sales rebounded.
The earnings boom also has been powered by many companies’ continued penny-pinching and focus on boosting productivity, analysts say.
“Companies are just a lot more efficient than they were five years ago,” said Ashwani Kaul, who tracks earnings estimates at Reuters Estimates in New York.
Corporate critics say the penny-pinching has come at workers’ expense. Cuts in company pension programs and healthcare benefits have become routine, for example.
Year-over-year earnings growth has slowed from the 25%-plus rate in 2004, but many analysts had been expecting growth for the average S&P; 500 company to drop into single digits this year. It hasn’t happened.
One reason is that many of the S&P; 500 companies operate worldwide, and the global economy has remained robust, Lonski said. “We’re still getting brisk growth in the rest of the world.”
That is helping companies such as United Technologies, which sells aircraft engines, elevators, air conditioning units and other equipment around the globe. It is expected to post 17% growth in earnings per share in the third quarter ended Sept. 30, according to Zacks’ estimates.
Yum Brands Inc., which operates Pizza Hut, KFC and other restaurant chains, on Wednesday said per-share profit for its fiscal quarter ended Sept. 9 jumped 20%. Wall Street had expected 9% growth. Yum Brands cited strong sales gains in China.
Financial services firms are expected to provide a big lift to overall blue-chip profit gains in the third quarter. Investment banks, for example, are raking in huge sums from merger-advisory fees. And insurance companies such as Allstate should post sharply improved results compared with a year earlier, when hurricane damage claims slammed their bottom lines.
Allstate is expected to earn $1.76 a share in the period. A year earlier, it lost $2.52 a share.
Many retailers also are expected to show strength, as falling gasoline prices have given consumers more money to spend. Analysts predict that Kohl’s, the department store chain, will earn 61 cents a share in the quarter that will end Oct. 28, up 36% from a year earlier.
For energy companies, however, falling prices will mean weaker profit growth. S&P; 500 energy companies’ earnings are expected to rise 22% in the third quarter, half the second-quarter growth rate, according to Reuters Estimates.
As always, the key issue for Wall Street in the short term isn’t whether a company’s results are good, but whether they beat the number analysts projected.
Shares of aluminum titan Alcoa Inc. fell $1.44 to $26.85 on Wednesday even though the company said quarterly profit rose 86%. Investors had expected more.
Still, the quarter’s results overall should be good news for the economy’s outlook, Van Dijk said. “You don’t have a recession when total income for the S&P; 500 companies goes up double digits,” he said.
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