Q2 Earnings On Track To Reach A New Record

Note: The following is an excerpt from this week’sEarnings Trends report. You can access the full report that contains detailed historical actual and estimates for the current and following periods, please click here>>>

Here are the key points:

• With results from 171 S&P 500 members already out, total earnings are up +8.8% from the same period last year on +3.4% higher revenues, with 78.9% beating EPS estimates and 70.8% beating revenue estimates.

• While growth is a bit on the lighter side relative to the preceding period for these 171 index members, the proportion of companies beating estimates, particularly revenue estimates, is notably tracking above other periods.

• The fact that companies are easily beating Q2 estimates even though estimates hadn’t fallen by that much ahead of the start of this earnings season, as had historically been the case, is a notable positive that needs to be acknowledged.

• For Q2 as a whole, combining the actual results with estimates for the still-to-come companies, total earnings are expected to be up +8.7% from the same period last year on +4.7% higher revenues. This would be coming after +13.3% earnings growth on +7% higher revenues in Q1.

• While the Q2 earnings growth pace represents a deceleration from the prior-quarter’s level, total earnings for the quarter are on track to reach a new all-time quarterly record.

• The Q2 growth is broad-based and not concentrated in one or two sectors. The strongest growth in Q2 is from the Energy, Technology, Aerospace, Construction, Finance, and Industrial Products sectors. Q2 earnings growth would fall to +6.6% on +3.8% higher revenues an ex-Energy basis.

• Beyond Q2, total earnings for the S&P 500 index are currently expected to grow by +4.6% on +4.1% higher revenues in the September quarter and +8.6% on +5% higher revenues in Q4. Estimates for the September quarter have started coming down, but they appear to be following the moderate revisions pace we saw ahead of the start of the Q2 earnings season, at least at this stage.

• For full-year 2017, total earnings for the index are expected to be up +7.7% on +4.0% higher revenues, which would follow +0.7% earnings growth on +2% higher revenues in 2016. Index earnings are expected to be up +11.4% in 2018 and +8.9% in 2019.

It is easy to be cynical about a preponderance of positive earnings surprises during reporting cycles. After all, corporate management teams’ ability to anchor investor expectations at easy-to-beat levels is well known by now. That said, I would caution against dismissing the above-average proportion of positive surprises in the ongoing Q2 as a replay of the aforementioned trend.

The fact is that the magnitude of Q2 estimate cuts in the run up to the start of this earnings season was one of the lowest in the last two years. Importantly, revenue surprises are even more numerous relative to historical periods than EPS beats and we all know that revenues aren’t as prone to accounting tricks as the bottom-line numbers are.

The bottom line is that the preponderance of positive surprises this earnings season, particularly on the revenues front, is reflecting a genuine improvement in underlying economic fundamentals. We see this view confirmed by the strong results from economically sensitive operators like Caterpillar (NYSE:CAT) (CAT), DuPont (NYSE:DD) (DD), U.S. Steel (X) and others.

That said, a favorable economic backdrop and end-market fundamentals is not the only factor that produces outperformance. Equally important is management effectiveness in executing the company’s strategic and operating plans. After all, we have seen companies like Intel (INTC) repeatedly fail to capitalize on numerous opportunities in its end-markets even as many of its peers continue to thrive. Similarly, the exceptionally strong McDonald’s (MCD) results doesn’t mean that all restaurants will thrive this earnings season.

Q2 Earnings Season Scorecard (as of July 26th, 2017)

We now have Q2 results from 117 S&P 500 members that combined account for 44.1% of the index’s total market capitalization. Total earnings for these 117 index members are up +8.8% from the same period last year on +3.4% higher revenues, with 78.9% beating EPS estimates and 70.8% beating revenue estimates.

The comparison charts below compare the results thus far with what we have seen from the same group of 117 index members in other recent periods.

As you can see, the earnings and revenue growth pace is tracking modestly below what we saw from the same group of companies in the preceding period. But the proportion of positive surprises, particularly revenue surprise is notably tracking above historical periods.

The chart below compares the proportion of companies beating both EPS and revenue estimates.

Looking at Q2 as a whole, combining the actual results from the 117 index members with estimates for the still-to-come 383 companies, total earnings are expected to be up +8.7% on +4.7% higher revenues.

The expected growth pace has been steadily rising in recent days as companies have been coming out with better than expected results. Going by historical trends, I wouldn’t be surprised if the final growth pace for Q2 reaches in the +9% to +10% range when all is said and done. But it will still be the below Q1’s double-digit growth rate.

The chart below shows quarterly earnings growth expectations beyond Q2 as well as the preceding 5 quarters.

While the earnings growth pace is decelerating from the prior-quarter’s level, the overall dollar tally of Q2 earnings is on track to reach a new all-time record for the index, surpassing the previous record achieved in 2016 Q4. The chart below shows the quarterly earnings totals for index, contrasting the highlighted Q2 tally with actual results from the last 4 quarters and expected tallies in the coming 4 quarters.

As you can see, this record isn’t expected to last very long, with growth expected to ramp up notably in the coming quarters.

Note: Sheraz Mian manages the Zacks equity research department. He is an acknowledged earnings expert whose commentaries and analyses appear on Zacks.com and in the print and electronic media. His weekly earnings related articles include Earnings Trends and Earnings Preview. He manages the Zacks Top 10 and Focus List portfolios and writes the Weekly Market Analysis article for Zacks Premium subscribers.

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