Earnings Roundup: Tax Reform Amplifies Earnings Growth Expectations

In the face of geo-political tensions, market volatility, and high expectations for earnings investors have been on the edge of their seats awaiting corporate earnings. The highly anticipated earnings season for the first quarter of 2018 unofficially kicked off Friday, Apr. 13, when four of the large banks reported earnings. The S&P 500 is expected to benefit from global growth and tax reform. As a result, the index is expected post the best first quarter YoY revenue and earnings growth since 2011 Q1.

Exhibit 1: S&P 500 YoY Growth Rates

Amplified Growth

S&P Q1 2018 YoY earnings expectations for the S&P 500 are at 18.6%. With earnings expectations high in the midst of anticipated benefits from tax reform, it is easy to dismiss the health of the underlying fundamental growth. YoY revenue is expected to increase 7.4%, which is the highest first quarter growth since 2011 Q1. YoY Earnings before interest and taxes (EBIT) growth is expected to be 8.0%. A comparison of YoY EBIT to net income (N.I.) shows an 8.7 percentage point (ppts) difference (16.7-8.0 =8.7). This boost to growth is largely attributed to tax reform. Finally, by comparing YoY EPS to N.I., the impact of share buybacks can be approximated, which provides an additional 1.9 ppts of YoY earnings growth. By assuming the same 1.9 ppts from share buybacks and adding this to YoY EBIT of 8.0%, it would imply that even without tax reform, 18Q1 YoY earnings would be near double digits. Therefore, the underlying revenue and earnings growth are expected to be strong; however, the amplified effect of tax reform has made YoY earnings exceptional.

Mixed Results

Four of the large banks (Citigroup Inc (C.N), JPMorgan Chase & Co (JPM.N), PNC Financial Services Group Inc (PNC.N), Wells Fargo & Co (WFC.N)) reported earnings on Apr. 13, 2018. Of these companies, half beat earnings expectations, while the other half missed. On the top line, PNC was the only one to report revenue below expectations.

The bright side to the recent market volatility was a boost to banks equity trading revenue. Citigroup was on one of those that benefited from the volatility and Michael L. Corbat, Citigroup Inc. – CEO & Director, had this to say about the macro environment, “The environment remains unique, to say the least. We have synchronized global growth in a macroeconomic environment, which is as positive as we have seen since before the financial crisis. U.S. corporations are starting to see the benefits of tax reform, the labor market is tight and wage growth continues to improve. At the same time, though, there are concurrently escalating and deescalating tensions, depending on the day and geography. And while our markets business may appreciate the volatility, we’d be better served by steady and predictable growth and having our fundamentally robust economy do its thing.”

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