Feature Story
Monday, October 6, 2003
Profits Look Strong As Q3 Season Starts
BY DAVID SAITO-CHUNG
INVESTOR'S BUSINESS DAILY
It's not 2000 again, that's for sure. But the technology sector is expected to lead third-quarter corporate earnings to their best gains in three years.
Based on analysts' profit estimates for the third quarter, earnings among companies in the S&P 500 large-cap benchmark index are expected to rise 15.9% from a year earlier.
And First Call's research chief Chuck Hill predicts that by the end of earnings reporting season, actual S&P 500 operating earnings will show a 19% to 20% gain. If true, that would exceed the 18.4% growth in the third quarter of 2000, the year the stock market bubble burst.
The biggest contributors to the strong increase hail from the tech, energy and financial sectors. Excluding Lucent Technologies, (LU) whose recent accounting change results in a much more favorable year-over-year comparison, the tech sector is currently seen growing earnings by 20%.
Pent-up Tech Demand
Why so strong? They've cut costs to the extent that a genuine pickup in revenue would easily leverage a boost in earnings. Real interest rates are still low. The weaker dollar has helped boost exports for U.S. chipmakers and other hardware suppliers.
Plus, companies have stretched the replacement cycle for new computer hardware.
"This is the part of the economy where we see a lot of pent-up demand," said Russ Koesterich, North America equities strategist at State Street Global Markets in Boston.
State Street has also found a strong link between earnings and the Institute for Supply Management's manufacturing survey's new orders index. From June to September this year, the subindex has risen from 52.2 to 60.4. A figure above 50 indicates growth.
Money managers agree.
"Recent gains in business spending have been led by technology purchases, providing solid sales growth to technology firms," Steven Young and Robert Benson of the $315-billion-strong Banc of America Capital Management wrote in a Sept. 29 report.
Analysts see energy firms' earnings up 42% and health care earnings up 14%. Consumer cyclicals' profits are expected to grow only 3%. Koesterich notes higher energy prices could hurt this sector.
Not all sectors share the same warm, glowing outlook.
Utilities in the S&P 500 are expected to post third-quarter profits down 4% from a year earlier.
Telecommunications firms' profits are expected to drop 5%, while the basic materials sector is forecast to see earnings dip 1%.
The third-quarter earnings reporting season kicks off this week, with for-profit school Apollo Group (APOL) and aluminum giant Alcoa (AA) stepping up Tuesday; Yahoo, (YHOO) Genentech (DNA) and Costco (COST) on Wednesday; and General Electric (GE) Friday.
Earnings season really moves into high gear the following week.
Among the small fraction of companies in the S&P 500 that have already reported, many have trounced Wall Street views. On Sept. 23, Morgan Stanley posted a 72% jump in August third-quarter earnings to $1.15 a share, smashing the 69-cent consensus estimate.
Meanwhile, third-quarter profit warnings have been relatively mild. The ratio of negative to positive preannouncements is running at 1.7 vs. 2.5 in the first quarter of 2003.
And earnings prospects look good. As of Friday, analysts saw fourth-quarter earnings rising 21.8% from a year earlier.
"This is a fairly significant growth rate," because in fourth-quarter 2002, earnings rose a solid 9.7%, said Ken Perkins, research analyst at First Call.
In the first half of 2003, companies beat analyst views by more than usual. So Perkins believes such a gain is "certainly achievable."
The earnings picture also looks bright for early next year.
First-quarter profit growth is pegged at 13%. On July 1, Wall Street expected a 10.3% increase. This upward revision is unusual, because analysts typically trim their initial estimates by 3% on average.
Sales growth — the heart of higher profits — remains a concern for market analysts and investors.
"I don't think they will be poor, but the concern is whether revenue growth will satisfy expectations, which have been aggressive," Koesterich said. He also points out this economic recovery has been the mildest since after World War II.
Most economists say third-quarter GDP likely grew well over 4%.
First Call wouldn't disclose revenue estimates for the third quarter because of high volatility in figures for the financial and energy sectors.
In the second quarter, revenue among S&P 500 firms rose 7.4%, down from 9.9% in Q1. But excluding energy and the weak dollar, sales growth was tepid.
General News
Monday, October 6, 2003
Nonfarm Payrolls Up 57,000 In Sept. After 7-Month Slide
BY CHRISTINA WISE
INVESTOR'S BUSINESS DAILY
Friday's employment report fostered hope the jobless recovery may be grinding to a close.
Nonfarm payrolls rose by 57,000 jobs in September, breaking a seven-month string of declines, the Labor Department said. July and August payrolls were also revised to a loss of 98,000 vs. the previously reported drop of 142,000.
The unemployment rate stayed at 6.1%, defying forecasts for a bump up to 6.2%.
The bulk of the job gains came in the service sector, which added 74,000 positions. Temporary jobs rose 33,000, the fifth straight increase. This is seen as a forerunner to more organic job growth since companies often hire temporary workers before filling full-time positions.
"When you look at the overall picture, it seems like it's following a script of a slow comeback," said David Littmann, chief economist with Comerica Bank in Detroit. "One where employment is going to grow, but not nearly as fast as the (number of) job seekers who are looking, so the unemployment rate is going to remain at current high levels through March."
Firms in health services, business services and transportation and utilities also added jobs.
And though factories shed workers for a 38th straight month, pink slips slowed. Manufacturing payrolls declined by 29,000 in September, the fewest since July 2002.
The government also has been trimming its payrolls, eliminating 15,000 positions in September, its seventh straight monthly decline.
The average workweek stayed flat at 33.7 hours, but the factory workweek and overtime rose.
Have Jobs Finally Bottomed?
Littmann said the labor market seems to have found its bottom and is now entering a period where monthly payrolls seesaw back and forth between positive and negative territory.
"It's a prelude to firmer employment simply because before something turns unequivocally, it starts bouncing around between the plus and the minus," Littmann said. "But the most jobless portion of the cycle is behind us."
The economy has to grow at a pace of 3% or higher for at least two quarters before employers will feel confident the recovery has staying power and hire significantly more workers, Littmann says. He doesn't expect job growth to truly kick in until March.
Still, after the long slump, businesses are primed for expansion. He points to Michigan as an example, which has been hit hard by the downturn and by the restructuring of its old-line manufacturers.
"When you ask one of the lending people here 'are suppliers gritting their teeth and at the end of their rope?' " Littmann said. "They say if they've survived, they are mean and lean and if they get any increase in sales, it's going to go straight to the bottom line as profit. When that happens they will be able to relieve us of this jobless recovery."
Others note that while Friday's report had its positives, it wasn't exactly a roaring comeback.
It's like "prisoners under torture being relieved at the slightest removal of pain," said Russell Sheldon, managing director of the Bank of Montreal. "This was just barely better than being poked in the eye by a small stick, but it went over well."
He notes the creation of 57,000 jobs isn't that large when compared with the overall job market.
"100,000 jobs is just one-tenth of 1% of the work force," Sheldon said. "This increase was barely visible and it comes after a long string of declines."
Employment is still down 2.7 million from the February 2001 peak.
Sheldon also said September's job gains weren't broad. The percentage of industries that added jobs rose to 47.1% in September, the highest since March '01 when the recession began.
But, "You need that well above 50%," Sheldon said. "We did have some gains, but they're still too narrowly based to get excited about. It's coming, but it isn't here yet."
Also, average hourly earnings edged 0.1% lower in September, the first drop in over 14 years.
"The wage numbers were pretty spectacularly bad," Sheldon said. "There was no income created here. The jobs barely rose, the workweek is pretty steady and the amount of pay dropped, so we're still in cost-cutting mode in this report."
Still, despite the weaknesses, the overall report showed hints of better times ahead.
"A lot of it was temporary help, but at least it was a plus," Sheldon said. "We seem to be turning the corner.
"Our theory is that the economy is strong and will blossom in the next few months, but this didn't prove it," he added. "If this is the first step, it was a baby step. We hope to see more and soon."
Companies are waiting to make sure that the increased demand is here to stay before they add jobs.
"At this point profit margins are back into the healthy ranges," Sheldon said. "So going forward (firms') hesitation will start to decline and the natural competition for profit margins will pick up."
