STOCK WATCH


Rays of Hope for Earnings Season?

Anne Kates Smith

So far, it's been mostly clouds for second-quarter earnings reports, with few bright spots. But we're just getting started.



Second quarter earnings season has gotten off to a slow -- okay, dismal -- start. But investors shouldn't let it spook them too much. There are already some pleasant surprises, too, and by season's end, those may be the one's that will predominate.

Alcoa unofficially kicked off earnings season on July 9. The aluminum maker (symbol AA) and Dow Jones industrial average component said earnings for the quarter fell 4%. The stock rose on July 9, only to fall back on July 10, closing at $41.66, down 1.7% for the day. Retailers Sears Holdings (SHLD) and Home Depot (HD), as well as homebuilder D.R. Horton (DHI), warned investors on July 10 that profit reports would be disappointing. Sears plunged 10%, to $154.21; Home Depot closed at $40.25, essentially unchanged. Horton fell nearly 2%, to $19.40.

Other earnings letdowns included warnings from printer manufacturer Lexmark International (LXK) and Scott's Miracle-Gro (SMG) and a report from International Speedway (ISCA), the race track operator, that second-quarter profits fell 40% from year-ago levels.

It was hard to find any bright spots. But Helen of Troy (HELE), a little cosmetics company from El Paso, Tex., with a stock market value of $872 million and annual revenues of $635 million, delivered a pleasant surprise. Helen of Troy, which makes and markets household appliances, beauty supplies and hair-care products under such brand names as Sunbeam, Vidal Sassoon, Revlon and Sable, reported sales of 32 cents a share for the quarter that ended May 31 (the company's first quarter). That was two cents a share ahead of what was expected, and 52% above last year's levels. In a red-ink day on Wall Street, the stock was in the black for most of the day, but closed down 0.6%, at $28.52.

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On the plus side, Helen of Troy reported a decrease in sales-related expenses, reaping some of the benefits of a multi-year retooling of its distribution and information systems. Completion of a new warehouse in Mississippi eliminated redundant warehousing and personnel expenses.

But contributions from a recent acquisition, Belson Products, which supplies personal-care products primarily to salons, were disappointing. Helen of Troy's sales for the quarter were up 7.5%, to $140.2 million; but analysts had been looking for $142 million. Standard & Poor's raised its target price for the stock by $3, saying Helen of Troy deserves to trade at $31 within a year's time, but, nonetheless, kept its "hold" rating on the stock. Wedbush Morgan, which downgraded the stock on June 29 from "buy" to "sell" and lowered its target price to $23, reiterated its stance after the earnings report. The brokerage is concerned about rising plastic resin prices, a raw material used in a number of the company's products as well as its packaging, and slower sales at some of the company's main retail outlets, including Wal-Mart Stores (WMT).

A better ambassador of good earnings news was Pepsi Bottling Group, which rose briefly to a new high for the year after reporting better-than-expected profit growth for its second quarter. The stock (PBG) closed at $35.74, up 3.8% on July 10, just a shade below the 52-week closing high. Pepsi Bottling, the largest distributor of Pepsi soft drinks, including Pepsi, Mountain Dew and Mug Root Beer, said earnings rose nearly 15%, to 70 cents a share, beating by far the 63 cents a share that analysts, on average, had expected. A 20% jump in sales in Russia boosted the bottom line. Citigroup, which reiterated it "buy" recommendation, says the stock could trade at $38 a share within a year.

When all the reports are in this earnings season, investors should expect to see earnings at S&P 500 companies up an average of 5.3%, says S&P chief strategist Sam Stovall. That's a bit less than the 5.8% S&P expected earlier in the year, and significantly less than the 8.5% growth expected at the start of the year. If the current forecast holds true, it would be the slowest quarterly earnings growth rate since the first quarter of 2002.

Earnings forecasts are famous for being revised, though, and companies regularly confound the experts' estimates. That's what happened in the first quarter, when S&P expected first-quarter profits to grow an average of 8%, then revised the forecast down to 3% just before reporting season, only to see earnings growth come in at 8% after all.

Could that happen this time around? Don't plan on it, says Stovall. "If everyone is already raising the mental bar, then chances are, we'll be disappointed."



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