An investor’s guide to the reporting season

Earnings season is well and truly under way and investors will be hoping for optimism from Australian chief executives after a tough end to 2018.

Over the next three weeks, Australian Securities Exchange (ASX) listed companies will outline how they went for the final six months of last year and what they think will happen to profitability over the next few years.

Despite markets roaring higher, it has been an inauspicious start with lots of profit warnings. In the lead up to the reporting season, for every company that investors had estimated profits would be higher than forecast, five companies had lowered profit expectations. That’s much worse than normal reporting seasons.

Look both ways at a turning point

The economic environment underpins most companies’ earnings. Investors have grappled with a global growth slowdown, led by China, and rising US interest rates. Chinese authorities started stimulating their economy in December and markets have been getting excited and hoping for a repeat of previous huge stimulus episodes. Now profits and future expectations need to follow through as investors are looking for signs of improvements in earnings.

Investors need to look both ways. They need to look back to see how revenues and profits were for the final six months of 2018, but equally important, they need to look forward to hear where those numbers are heading. That’s why the outlook statements this profit season are so important as they can trigger share price volatility, but they can also throw up opportunities.

Windfalls for some

Some companies are in a very strong position from a balance sheet and cashflow point of view. If they have franking credits there’s a good opportunity to provide either off-market buybacks, special dividends, or return those valuable franking credits to shareholders who pay tax in Australia. This is particularly the case for retirees, who get $1.43 worth of value out of every dollar of franked income they receive.

With Labor’s move to potentially make changes to the franking credit rebate system should they win the upcoming federal election, this is a perfect pre-election window for companies to do these returns.

Seek out value

Some growth stocks are very expensive at the moment. Sectors like technology and parts of healthcare are trading on very high price-to-earnings multiples. A growth stock is expected to provide investors with share price growth, but when they are already expensive, they become less attractive.

If growth stocks don’t deliver high profit growth or management aren’t optimistic in their outlook, their share prices will underperform other, cheaper, value stocks.

It’s going to be a volatile reporting season. Investors need to keep a close watch on guidance statements and be ready to pounce on opportunities that come their way.