Corporate Profit Growth Slows

Third-quarter earnings gain diminishes as risks from shutdown rise.

Prospects for a recovery in U.S. corporate profits this year are dimming after third-quarter earnings growth slowed and the federal government’s shutdown hindered trade and threatened to crimp consumer spending.

Earnings rose an estimated 1.4 percent for Standard & Poor’s 500 Index companies last quarter, trailing gains of 3.8 percent in the previous three months and an average 10 percent over 15 years. Analysts have reduced the quarterly estimate by 75 percent since June, according to data compiled by Bloomberg.

Higher payroll taxes weighed on shoppers at retailers such as Wal-Mart Stores Inc., and industrial companies such as Caterpillar Inc. confronted slowing sales at a time when there was little room left to boost profit through cost-cutting. The two-week-old shutdown and impasse over increasing the U.S. Treasury’s borrowing limit add to the risk of derailing an economic recovery whose bright spots include revivals in housing and for Detroit’s automakers.

“The rebound in earnings is getting postponed,” said Todd Lowenstein, a fund manager in Los Angeles for Highmark Capital Management Inc., which manages about $19 billion. “What’s going to drive earnings going forward is really top-line growth. For that, we need a lift in global economic activity.”

The International Monetary Fund last week reduced its forecast for global growth to 2.9 percent, from 3.1 percent in July. The U.S. economy may expand 1.6 percent this year, the slowest pace since 2009, according to the median estimate of 72 forecasters weighing the effect of higher taxes and mandatory budget cuts on consumer demand.

The partial shutdown that began Oct. 1 may shave a basis point per day from the quarter’s annualized growth, said Robert Dye, chief economist for Comerica Inc. in Dallas.

Chief executive officers are reluctant to invest and add workers given the shutdown and concern that the U.S. won’t be able to pay its bills if the debt ceiling isn’t raised, said Dave Cote, the boss at Honeywell International Inc.

“Uncertainty is a killer of economic growth,” Cote said during an Oct. 7 CEO roundtable on Bloomberg Television. “If they default, it makes it even worse because now you’re starting a fire.”

Honeywell, the Morris Township, New Jersey-based maker of products from cockpit avionics to thermostats, is expected to report adjusted net income of $989 million in the third quarter, according to nine analysts’ estimates, a 4.5 percent gain from a year earlier.

This is the first big week for S&P 500 earnings, with Honeywell among about 70 companies scheduled to report results.


Shutdown Impact

The partial closing of government operations that furloughed as many as 800,000 federal workers has spread to the private sector, leaving thousands more employees idle at contractors such as URS Corp. and Lockheed Martin Corp.

The impact was felt across industries: It snarled traffic at U.S. ports, froze projects at supercomputer maker Silicon Graphics International Corp., and delayed deliveries of aircraft. The closing of the Import-Export Bank has hurt foreign sales of goods from crop-dusting planes to pesticides.

Since the end of August, the average estimate for fourth-quarter earning growth at S&P 500 companies has fallen to 8.8 percent from 9.4 percent. The index has dropped about 1.3 percent since a 52-week closing high on Sept. 18, leaving it with a 19 percent gain for the year.

“It’s critical that the earnings do come through,” said Matt Lockridge, a fund manager with Westwood Holdings Group Inc. in Dallas, which manages about $16 billion. “If we do get earnings growth pushed out to 2014, there’s some potential risk to the downside for the market.”

Economic indicators have given mixed signals. The Institute for Supply Management’s manufacturing index increased more than expected in August. Meanwhile, rising concern over hiring and wages pushed the Conference Board’s consumer confidence index to its weakest since May.

U.S. retail sales growth may have stalled in September for the first time since October 2012, in a third straight monthly slowdown, according to economists’ median estimate.

Wal-Mart, confronting the impact of this year’s 2 percentage point payroll tax increase, reduced its annual profit forecast in August. The Bentonville, Arkansas-based retailer expects sales at its namesake U.S. stores open at least 12 months to be little changed in the quarter.

“There’s a lot of angst still in the economy today,” Bill Simon, Wal-Mart’s U.S. president and chief executive, said at a Goldman Sachs Group Inc. conference on Sept. 11.

Minneapolis-based Target Corp.’s third-quarter earnings per share is forecast to decline by about 34 percent, based on the average estimate.


Industrial Sales

Caterpillar, the world’s largest maker of construction and mining equipment, may post a decline in sales and profit for the fourth straight quarter, on lower global demand for machines used to mine copper and iron ore, pave roads and erect buildings. At General Electric Co., the largest maker of jet engines and locomotives, revenue fell 1 percent after dropping 4 percent in the second quarter, estimates show.

Costs related to the Patient Protection and Affordable Care Act began hitting health-care companies last quarter while benefits from more Americans with insurance coverage will come later, said Tony Butler, a New York-based analyst with Barclays Plc.

Johnson & Johnson will pay about $1 billion because of rebates in the government’s Medicaid program for the poor, drug cost cuts in Medicare for the elderly and a 2.3 percent excise tax on medical device sales, he said. Most companies will incur costs of $600 million to $900 million, he estimates.

“That clearly affects profits,” Butler said.

Results at companies such as Cupertino, California-based Apple Inc. were dragged by challenges that are specific to themselves or their industries.

While consumer appetite for the latest iPhones hasn’t waned -- a record 9 million were sold in the September weekend debut of two models -- Apple’s sales growth has slowed as Samsung Electronics Co. and other rivals gained market shares. Apple’s earnings per share may have declined about 9 percent last quarter, based on the average of 45 estimates, after falling 20 percent and 18 percent in the two previous quarters.

Of 10 industries in the data compiled by Bloomberg, two are forecast to have declines in profit: energy and finance.

Exxon Mobil Corp.’s refining unit was squeezed when U.S. gasoline prices failed to keep pace with rising crude prices. Earnings at the world’s biggest energy company by market value may have dropped to $1.88 a share from $2.09 a year earlier, based on the average estimate.


Booming Businesses

Some industrial and housing businesses did well last quarter. U.S. car buyers’ revived interest in Detroit autmakers may have helped General Motors Co.’s per-share earnings rise for the first time this year on an increase of about 5 percent in revenue, according to analysts’ average estimates.

Home Depot Inc., the Atlanta-based home improvement retailer, is riding the rebound in housing starts, which almost doubled to an annual rate of 891,000 in August from a low in April 2009. Net income jumped 34 percent, according to the average estimate. PulteGroup Inc., the largest U.S. homebuilder by market value, may have seen an 11 percent sales gain.

Dow Chemical Co., the largest U.S. chemical maker by sales, should exceed analysts’ average earnings estimate, Bob Koort, a Goldman Sachs analyst, said in a Sept. 26 note. The current projection is for a 28 percent increase on a per-share basis. Rising prices for polyethylene plastic, used in shopping bags and packaging film, boosted U.S. production margins to the highest in four years, benefiting makers including Midland, Michigan-based Dow, Koort said.

With the conflicting economic data and the government’s latest reports delayed by the shutdown, investors said they will look for clues in corporate managers’ comments on business conditions.

“Some of the consumer-confidence, retail-sales, and capital-spending numbers have been a touch on the soft side lately, leading to some concerns that the economy may have slowed a bit,” John Carey, a fund manager at Boston-based Pioneer Investment Management Inc., which manages about $200 billion, said in an e-mailed response to questions.

Even if the shutdown and debt limit are resolved soon, earnings estimates for the fourth quarter will trend down just as they did for the third quarter, said Frederic Dickson, chief investment strategist for D.A. Davidson & Co. in Lake Oswego, Oregon, which manages $43 billion. The sluggish economy and erosion of business and consumer confidence are big hurdles for a late-year earnings rebound, he said.

“The fourth quarter last year was a good quarter,” Dickson said. “To go 9 percent above that coming off of a plus-2 percent in the third quarter I think is off the charts in terms of optimistic thinking.”


Bloomberg News

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