The fury of earnings season is about to rain down on the heads of investors, and in spite of gloomy projections, the next four weeks are actually being viewed as a catalyst for stocks in many camps.
Here is the logic. Already, 20 of 24 reporting companies have topped earnings expectations for the first quarter. Immediately, that has sent the Street into a mindset that per the usual, earnings will beat because analysts have gotten too worried about some issue or another (in this case the dollar and wage inflation). Such a mindset does have merit. Since the start of the economic recovery, the average gain for stocks over the first four weeks of earnings season has been a tidy 3%.
However, don't be suckered into believing the "beat low expectations" game applies to every single company. It doesn't. Furthermore, even those companies that surpass lowered earnings estimates are likely to have their earnings quality scrutinized more than the norm -- remember, valuations are far from rock bottom levels. Here are five companies that for specific fundamental reasons I would look to bet against right into the heart of earnings season.
Best Buy (BBY): The company has done some fine work under CEO Hubert Joly, including reimaging the sales floor, bringing in better products, and vastly improving customer service. To top it off, it has slashed significant fixed and variable expenses from its business model, allowing it to reallocate those savings in more competitive prices to Amazon (AMZN) and carry a bit to the bottom line to appease shareholders. But there are several reasons to wager against the company's stock in the coming month or so. The first is Apple's (AAPL) Apple Watch, which is sending throngs of people into Apple retail stores (Best Buy does not have the watch yet). The purchase of a $500 Apple Watch, or higher, depending on the number of bands consumed, will pull sales away from a Best Buy, hurting its outlook in its slower pre-holiday quarters. In turn, that may cause investors to ratchet down their expectations for Best Buy's holiday period. I believe Best Buy will also have to contend with the release of pent-up demand this spring for eating out and apparel, and automobile maintenance, following the harsh winter weather.
Sears Holdings (SHLD): Within the last two weeks, the struggling department store has sold properties to Simon Property Group (SPG) and General Growth Properties (GGP) for millions of dollars. And these properties are occupying prime real estate, not really the ghost towns that tend to envelope many zombie malls. I don't like the optics of these transactions. Just before Sears is set to announce its first quarter earnings (May) it's selling prized assets? Not an uplifting sign on the first quarter performance by any stretch of the imagination.
Fossil (FOSL): The watchmaker was one of the laundry list of retailers that issued below planned guidance for 2015 back in February, and with good reason. Money spent by people to pre-order one million Apple Watches could have found its way to Fossil, which is launching a Tory Burch watch line. Also, Fossil is expanding its Kate spade watch business and has plans to put some wearable technology in department stores this year. Unfortunately, the Apple Watch is likely to have a profound negative impact on Fossil and Swatch, in coming quarters. I suspect this effect will appear in Fossil's second quarter guidance and earnings call commentary.
Ruby Tuesday (RT): "We still are pretty promotional, and we're doing a fair amount of discounting," said Ruby Tuesday Chairman & CEO J.J. Buetggen on an April 9 earnings call. The company's COO Todd Burrowes added, "Our check growth lagged the industry during this quarter as we continued to invest in affordability and promotional efforts." This is the worst possible combination in the restaurant business: high levels of promotions and little to show for it on the bottom line (or in traffic/check counts). I believe companies like Buffalo Wild Wings (BWLD), DineEquity (DIN), which operates Applebee's and IHOP, and a fast casual player such as a Chipotle (CMG) are going to prolong any turnaround for Ruby Tuesday. In the meantime, investors may be disappointed by the second quarter.
Tiffany & Co (TIF): While on topic of the Apple Watch, I believe its inevitable success (if one million pre-orders isn't already solid...) this holiday season spells bad news for Tiffany. For years, Tiffany's profit margins have thrived on items priced under $1,000. Silver, for example, could be marked up aggressively simply because it donned the Tiffany name and was wrapped in a blue box. However, the Apple Watch offers absurdly more function (and looks darn cool) than a $600 piece of silver for the wrist found in the cases of Tiffany. I don't believe the impact of Apple's newest fashion piece is reflected in Tiffany's valuation, nor is sluggish tourist spending due to the strong dollar.
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