Earnings trends point to a better-than-usual ‘confession season’

The Macquarie Australia Conference marks the start of the so-called ‘confession season’ for corporate Australia so will we see the usual corporate downgrades?

May and June are historically when corporate Australia “confesses” whether it’s on target to meet expectations.

Confession season looms for corporate Australia as the financial year end approaches, but will profit warnings dominate as usual? Macquarie thinks the earnings trends are positive this time.

The 26th annual Macquarie Australia Conference is due to be held on May 7-9, with 113 companies scheduled to present.

This event typically gives companies a good chance to “confess” if their earnings look way different to market expectations as they are required to do by the ASX.

Historically, May and June have seen the highest number of profit warnings of the year, hence the “confession” period label. Companies normally update the market just before they present at the conference. No doubt some companies will sound upbeat but fail to deliver.

But while negative updates tend to dominate at this time of year, Macquarie is betting that there will be more upgrades than downgrades to company guidance in the coming months.

“Given the improving earnings backdrop, instead of being a downgrade conference, we expect net positive surprise in 2024,” says Macquarie’s Australian equity strategist, Matthew Brooks.

The consensus estimate for 2024 financial year earnings per share has fallen 1.5 per cent since February.

“Since the bottoming of the earnings growth cycle last October we have seen net guidance upgrades in AGM season, a rare beat in reporting season and unseasonably strong consensus earnings per share upgrades in March and April,” he said. “The improving trend has continued.”

It comes amid rising jitters about the outlook for interest rates as inflation proves sticky.

In the six months through March, the S&P/ASX 200 rose about 17 per cent to a record high near 7900. It dipped about 5 per cent last month as higher than expected US inflation data led investors to dial back their expectations of interest rate cuts. Australian rate cut hopes have also faded.

The S&P 500 rose as much as 27 per cent in the same period before falling 4.2 per cent in April. It was the worst month in the past six. Markets are awaiting interest rate guidance from the US Federal Reserve early on Thursday Australian time. The Reserve Bank of Australia meets next week.

In Australia the consensus estimate for FY24 earnings per share has fallen 1.5 per cent since February due to downgrades for large companies, particularly in mining.

But the consensus estimate rose 5 per cent in March and 8 per cent in April. Even in the mining sector, there have been net EPS upgrades, highlighting that smaller mining stocks have positive revisions, Brooks says.

Macquarie’s own bottom-up estimate has risen about 2 percentage points for FY24 and FY25.

“The positive EPS revisions in March and April are strong relative to the average for this time of year when there are usually net downgrades,” Brooks says.

“The unseasonably strong earnings revisions are another positive sign for the near-term earnings outlook.

“Given the positive revisions trend, plus the cost cuts initiated by many companies, we see potential for further net guidance upgrades before full-year results in August.”

Macquarie’s bottom-up FY24 EPS growth forecast for Australia is a decline of 6 per cent but that has improved from an 8.8 per cent fall that it forecast at the end of February.

The broker also sees aggregate earnings growth accelerating to 9.5 per cent in FY25.

The earnings improvement it has forecast for FY25 has risen from 7.6 per cent since February, even though the trough it sees in FY24 has become shallower. The profits cycle may have bottomed.

The resources sector has seen the largest upgrades. Macquarie now sees FY24 EPS growth in the resources sector falling about 20 per cent in FY24 versus a 25 per cent fall previously expected.

Its FY25 forecast for resources has risen to 18 from 14 per cent.

Bank earnings forecasts have seen marginal upgrades, with a 4 per cent fall expected for FY24 and a 4.6 per cent fall for FY25. Industrials sector EPS growth forecasts have increased 130 basis points to 8.2 per cent for FY24 and have risen 50 basis points to 10.9 per cent for FY25.

Brooks expects a re-acceleration in global growth to support earnings trends. The upcoming Budget, which includes personal income tax cuts, should also support earnings growth in FY25.

He also notes that the March quarter reporting period in the US has been pretty strong. A net 42 per cent of reporting S&P 500 companies have beaten consensus earnings per share estimates, up from 32 per cent at the same point in the December quarter.

The positive surprise has been driven by higher than expected profit margins rather than sales.

A key area of positive margin surprise has been in the cost of doing business, which could be driven by the stronger productivity growth in the US.

“While we are yet to see the same productivity improvement in Australia, ASX companies that have higher US exposure could also deliver positive margin surprise,” Brooks says.

Macquarie Equities has quantitatively screened for potential conference surprises based on the trend in earnings revisions and recent share price performance.

Candidates for positive announcements among its top-rated stocks that have had positive consensus revisions in the past three months and aren’t “overbought”, include AUB, GPT, Reliance Worldwide (which reaffirmed guidance on Thursday), McMillan Shakespeare and Imdex.

Macquarie’s negative surprise candidates include ASX Ltd, Qualitas, Pexa, Pro Medicus, Propel Funeral, Endeavour Group, IPH Limited, Corporate Travel and Nine Entertainment.

They key themes from companies presenting at the conference are expected to include the impacts of sticky inflation; the outlook for demand amid the increasing likelihood that interest rate cuts will be delayed; potential impacts from the federal budget and geopolitical events like the Middle East and Ukraine-Russia conflict; and investments in AI.