I have a basic two-step process when preparing to make buy, sell or hold calls on stocks under coverage, prior to earnings season. The first is to have a knowledge brain dump on the external environment, from market sentiment to trends developing in the macro economy. Here is a general list I am using this time as a pre-game for analyzing individual companies:
1. How much is revenue hurt by the strong U.S. dollar?
Does any estimated negative impact get shrugged off by the market, as analysts already discounted it in their models? If I see this type of response, it would be an all-clear sign of sorts, on multinational companies. The dollar, at its current level relative to other currencies, is not going to stay intact for the balance of 2015. It will weaken. Likely, that will be the result of the Fed not raising rates as fast as some presently believe. Rather, it would do so gradually at every policy meeting.
2. Are sales and profits in Europe as bad as we have been led to believe by government actions on stimulus?
If I am seeing decent sales and profit increases from a company's European arm, it would signal there is too much fear out there, regarding another long-lasting EU recession. In fact, stocks could get a boost, if European results do not trend in as badly as expected, alongside more liquidity handed over by the ECB.
3. Why are the executive ranks being shuffled to start the year?
I am seeing it already. An odd amount of executive-level talent turnover has occurred in the past month. Big name companies, from Abercrombie & Fitch (ANF) to Starbucks (SBUX) to Outerwall (OUTR). Keep in mind that the departure of a top lieutenant brings change that does not transpire overnight. That change could weigh on sales and profits in the near-term. It's likely that a particular business segment had been underperforming from the get-go.
These are the basics views to apply this earnings season. I am sure there are more specific ones to consider in each industry. For instance, I am concerned on volume growth on a sequential basis at the nation's railroads. Nevertheless, here is an analytical rundown of three names I cover. More on the way this week.
Chipotle (CMG): as long as McDonald's (MCD) results stay dreadful (they will) because of a nation obsessed with food origin, Chipotle will continue to thrive. The question on Chipotle, though, is whether the law of large sales numbers will catch up to its red-hot stock price soon. I think slowing sales growth at Chipotle will arrive by mid-2015 and hit the stock. For this development to avoid denting the stock, I would like to see management point to another menu price increase amid nagging inflation in proteins, and roll out a couple of new menu items. Management has been reluctant to do so.
Starbucks (SBUX): analyzing the holiday quarter results from Starbucks are always difficult. We all know the company sold zillions of gift cards globally, and it will deliver tasty profit margins. But what is paramount in assessing the richly valued Starbucks is: the direction of traffic and transaction growth, and the amount of profit margin expansion, relative to the last several quarters. I think Starbucks delivered another in-line earnings quarter, at the most a $0.01 beat, both of which will be viewed as letdowns to a market that has yawning concern on the company's domestic traffic growth. Also, remember that Starbucks is in the midst of a serious investment phase in transformational technology. So, even if it beats sizably on sales, the flow through to the bottom line may be muted.
Home Depot (HD): do I like seeing Home Depot shares sell off on a better-than-anticipated housing starts report? Nope. Sure wasn't keen on the building materials sales numbers in the retail sales report last week either. But I would be very surprised if Home Depot doesn't beat nicely on earnings when it announces in February and comes out with full-year guidance that retains bullish sentiment on Wall Street. Best Buy (BBY) had strong appliance sales during the holiday season, hinting good things at Home Depot. CSX (CSX) had a solid quarter in building materials, notably lumber, which bodes well for Home Depot's sales. Furthermore, I think the company is temporarily shielded from the competitive sales environment that homebuilders are calling out.