Yeah Business Week had an article on how co stocks rise into earnings then sell off even if hit or beat expectations. amat might be a great short at the close tomorrow.
>>Ho-Hum, Another Earnings Surprise
Investors now look for companies to routinely beat profit estimates
Seems like Wall Street's just full of surprises these days--and it's not just Dow 11,000. An eye-popping 67% of companies in the Standard & Poor's 500-stock index have reported better-than-expected first-quarter earnings--the highest percentage for any quarter on record. And the percentage of negative surprises is the lowest on record, with only 13% of companies coming in under estimates, according to First Call Corp., a firm that tracks analysts' estimates.
For years, sophisticated investors have seized on unexpected upside earnings as a buy signal. The reasoning: Companies that beat Wall Street analysts' forecasts in one quarter often repeat in subsequent quarters. So with record high positive-earnings surprises and scant negative ones, that should mean the stock market is in for a long period of happy profit reports. Right?
Don't bet on it. Earnings that exceed expectations, especially those coming from market darlings such as Microsoft, Lucent Technologies, and Dell Computer, no longer pack the punch they once did. In fact, many surprises from a wide array of companies are not really surprises anymore. That's because companies increasingly are talking down their profit prospects to Wall Street analysts, thereby lowering expectations.
''You see this all the time on the Street--a company will report some bad news weeks or days before earnings are announced, and analysts will reduce estimates,'' says Charles L. Hill, First Call's director of research. ''Then lo and behold, a company will end up beating estimates.''
The evidence is in the numbers. According to a study done for business week by First Call and I/B/E/S International Inc., a New York investment research firm that monitors earnings estimates, 1,025 of 6,000 companies beat earnings estimates in at least nine of the past 12 quarters. In addition, estimates for many of those companies tend to fall within a narrow range. If companies weren't steering analysts toward a number, forecasts would be far more dispersed. The companies with both a strong record of positive surprises and a tight range of estimates include such giants as America Online AOL, General Motors GM, Lucent Technologies LU, and Microsoft MSFT (table, page 84).
The companies say they help analysts, but don't discuss actual numbers with them. ''We don't specifically guide analysts downward,'' says a Microsoft Corp. spokesman. ''Analysts take input from Microsoft along with information from other sources in setting earnings expectations.'' Adds a spokesman for Dell Computer Corp.: ''It's less about guiding analysts and more about helping them to understand our business and the industry.''
True, companies often will answer analysts' questions about orders for a new product or about new store openings. But increasingly, the questions are related directly to the bottom line. Company spokesmen, usually the investor-relations chief or perhaps even the chief financial officer, can't say what that number will be, but they'll often give directions like ''you're hot,'' ''you're cold,'' or ''you're getting warmer.''
CONSERVATIVE. ''You wouldn't believe the number of companies that call us a day or two before they announce earnings,'' says Joseph Abbott, equity strategist for I/B/E/S. ''They're looking for the most recent consensus number so they can trump it.'' In a recent study by BARRA Inc., a Berkeley (Calif.) investment research firm, statistical techniques were used to show that companies are ''guiding analysts to a number they can just beat,'' says Andrew Rudd, BARRA's chairman and CEO.
Analysts tend to be conservative in their earnings estimates to start with. If they overestimate, they risk ticking off the company and losing access. But if they underestimate, the company comes out looking good. A recent study by Vijay Chopra, a quantitative analyst with Bankers Trust, shows that on average 12% of analysts' estimates get revised downward, vs. 7.5% upward.
Companies need to generate positive surprises to keep not only stockholders but also stock-option holders happy--and that group is growing. Stock options and other compensatory stock now amounts to more than 13% of shares outstanding for large U.S. companies, up from 7% in 1989, according to Pearl Meyer & Partners, an executive-compensation consultant firm in New York.
Lowering expectations is not just a matter of trying to boost the stock price. Companies prefer to talk earnings down rather than up because if they fail to meet the high estimates, they risk shareholder lawsuits. Shareholders recently filed suit against Compaq Computer Corp. CPQ charging that the company did not inform them of an impending drop in sales during the first quarter.
Investors are coming to expect surprises from some companies, so they are losing their oomph. Lucent Technologies Inc., for example, has reported 12 positive surprises in the last 12 quarters. Now, the stock tends to rally the week ahead of the earnings announcement, about 7%, according to limresearch.com, an Austin (Tex.) investment-research firm. And once Lucent releases earnings, the stock usually falls. The company attributes its consistent surprises to its growth strategies plus a fast-expanding telecommunications market. ''We've leveraged opportunities on the bottom line,'' says a spokesman.
Likewise, Microsoft, which has also beat the Street's earnings estimates in every one of the last 12 quarters, rallies 75% of the time in the week before it reports profits. But once earnings are out, the stock is down about half of the time. Steve Smith, a Dallas investment manager who uses earnings surprise as a trading strategy, says each subsequent time a company has surpassed estimates has less of an impact on the stock than the previous surprise.
Companies sometimes sputter even when they beat the published earnings estimate because they fail to top the ''whisper number''--the unofficial earnings estimate that's widely bandied about on trading floors and over the Internet. Whisper numbers reflect investors' higher expectations for companies that regularly beat published estimates.
GETTING CLOBBERED. In effect, the whisper number becomes the new goal. Just look at America Online Inc. AOL reported a gain of 11 cents per share on Apr. 27, some 20% above analysts' consensus estimates. But the stock dropped almost 12 points over the next two days. Analysts blamed the decline on investor disappointment that AOL did not exceed the whisper number.
Companies are getting better at avoiding nasty negative surprises when they report earnings. They do this by issuing a warning or ''pre-announcement'' weeks ahead of the regular report. Stocks can get clobbered when the company says it will fall short of Street estimates, but First Call's Hill says the hit is usually not as bad as it would have been had the company waited to deliver the news at earnings time. Analysts, meanwhile, usually slash their forecasts after a pre-announcement. When the numbers finally come out, expectations are usually so low that the company ends up beating a revised estimate, and the stock rebounds.
In first-quarter reporting so far, 9% of companies in the S&P 500 let the bad news out early. That's up from 5% in the first quarter of 1998 and 4% in 1997. Says Richard Bernstein, director of quantitative research at Merrill Lynch & Co: ''The negative earnings surprise is becoming extinct as companies manage earnings expectations.''
These days, as companies try to keep stockholders happy, that's no surprise, either.<<
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