1) Earnings growth is being driven by tech, energy and financials
The headline on the summer’s reports of US corporate earnings is that they are likely to have grown at a double-digit rate — just about — for two consecutive quarters, for the first time since 2011.
But that growth has been heavily concentrated in three sectors. Information technology, energy, and financial services between them account for more than 70 per cent of the growth in earnings for S&P 500 companies in the second quarter, according to FactSet.
Among the tech companies, the big names almost all turned in strong performances. Apple and Facebook exceeded expectations for earnings growth, and profits at Alphabet, owner of Google, would have risen strongly but for its record antitrust fine from the EU.
In financial services, several of the big banks overcame a slowdown in trading to report strong total earnings growth, although investors were generally unimpressed. Outside of those three sectors, earnings growth has generally been respectable, but the perception of the second quarter as a strong season for earnings depends heavily on those buoyant industries.
2) US consumers are cautious and big brands are still a tough sell
Kleenex, Palmolive and Oreo were among the big brands that suffered from weak US sales in the quarter, reinforcing a picture of sluggish consumer spending and intense competition.
US government data for retail sales showed a spike in growth in the first quarter of 2017, followed by a slowdown in the second, and earnings reports have generally supported that impression.
Jon Moeller, chief financial officer of Procter & Gamble, said growth in its US markets had slowed from more than 2 per cent last year to “barely above flat” in the three months to June. Colgate-Palmolive reported a 4 per cent drop in US revenues from oral, personal and home care products, and said its performance was weaker than it had expected. Johnson & Johnson, which makes Neutrogena shampoo and Listerine mouthwash, reported a 0.8 per cent organic drop in worldwide sales of its consumer products.
Kimberly-Clark, which makes Kleenex tissues and Huggies disposable nappies, said it now expected 2017 sales to be “similar or up slightly year-on-year” from last year, when it had previously been projecting growth of 1 to 2 per cent. Thomas Falk, chief executive, said: “The near-term environment has become more challenging”. P&G cut prices and relaunched online sales for its Gillette razors and blades, and increased volumes for shaving products in North America after eight consecutive quarters of decline.
3) The weaker dollar will boost profits, but companies do not like to talk about it
Since President Donald Trump’s inauguration on January 20, the dollar has lost about 9 per cent of its value against the euro and 4 per cent against the yen, boosting the value of foreign earnings for US companies.
Morgan Stanley estimates that every 1 per cent fall in the US dollar index relative to a basket of other leading currencies adds roughly 0.5 percentage points to the average earnings per share growth of the companies in the S&P 500 index.
But management teams that are quick to highlight the negative impact when a strengthening dollar works against them have been more cagey about crediting the benefits of currency weakness.
DuPont, the chemicals group, is one of the most transparent companies in reporting currency impacts. It said that out of a 37 cents improvement in operating earnings per share to $3.02 for the first half of 2017, about 8 cents came from currency movements.
The impact of exchange rates also depends on where foreign profits are made: 3M reported that currency movements reduced its sales by 0.6 per cent and its margins by 0.5 percentage points in the second quarter.
United Technologies, which makes equipment for aircraft and buildings, was one of the most upbeat about currency impacts, suggesting they would offset the rising cost of the commodities it uses such as copper. The dollar-euro exchange rate “feels good today”, said Akhil Johri, chief financial officer.
4) Expectations of corporate tax reform are already influencing corporate decisions
After the failure of attempts in Congress to repeal Obamacare, tax reform is moving to the top of the political agenda, although securing an agreement is likely to be every bit as difficult as passing a new healthcare law.
Alex Gorsky, chief executive of Johnson & Johnson, spoke for many US multinationals when he said he was “optimistic that there are opportunities for modernisation of the corporate tax code in the near future”.
One of the critical issues is the earnings of US companies’ foreign subsidiaries, which are taxed only when the profits are formally brought into the country.
Apple, which has the largest pile of cash held overseas to defer tax, did not mention the issue, but Patrick Goris, chief financial officer of Rockwell Automation, was one of several executives who mentioned hopes for tax reform, “including the lower rates, [and] including an opportunity to repatriate cash”.
While companies wait for reform, some moves are being postponed. Ian Read, chief executive of Pfizer, said tax reform could affect asset values, meaning that mergers and acquisitions would be “somewhat delayed” until the issue was resolved.
Some companies, however, have chosen to pre-empt any decision in Washington. Ford Motor said it was cutting its projected tax rate for the year from 30 per cent to 15 per cent, because of moves it had made in response to possible future US policy. “We don’t know what corporate tax reform will be [Washington] will have to take actions to pay for any lower rate, so some of the things we did today are allowable under the current tax code but all that could change,” said chief financial officer Robert Shanks.
5) Donald Trump is not as popular as he used to be
In the first flush of enthusiasm after President Donald Trump’s election in November, many companies talked optimistically about the benefits that his administration could bring, including deregulation, infrastructure spending and revived consumer confidence as well as tax reform.
Back in January, Andrew Liveris, chief executive of Dow Chemical, talked about “early signs of positive momentum with the US in expansionary mode, driven by ongoing strength of the consumer and the tailwind of the new incoming Trump administration”.
Some executives are still making positive comments about the administration. Raytheon said the administration’s push to strengthen the US military “puts a significant demand signal on our missile systems, our sensors, precision munitions across the board.” Joseph Gorder, chief executive of Valero Energy, said the company was “pleased with the emphasis that President Trump and his administration have placed on the energy sector.”
Overall, though, the number of mentions of Mr Trump has dropped sharply since the reporting season six months ago. By February 14, when 371 S&P 500 companies had reported earnings, 181 — almost half of them — mentioned Mr Trump, according to FactSet. In this summer’s earnings season, with about the same number of companies having reported, he has been mentioned by just 44.
Talking last month about prospects for selling Dow’s Enlist weed control system for soya beans in China, an objective of the Trump administration, Mr Liveris said: “We’re not pessimistic. We’re optimistic we can do soy. But we don’t want to overpromise and underdeliver.”
Additional reporting by Pan Yuk, Patti Waldmeir and David Crow