Earnings Roundup: Healthcare Has The Cure

Earnings overall were strong during the past week. Health care was the strongest sector, with notable outperformance by Gilead Sciences.

OBSERVATIONS: HEALTHCARE HAS THE CURE

This week saw a zerg rush of earnings (if you are not familiar with the term “zerg rush,” Google it), as 146 companies within the S&P 500 reported their Q2 2014 earnings results. Overall, earnings were strong, and only the consumer staples sector (44% beat) had less than 50% of its constituents beat analyst expectations. In aggregate, 70% of companies beat analyst expectations, while only 19% posted earnings below expectations.

EXHIBIT 1A. S&P 500: EARNINGS GROWTH AND EARNINGS SURPRISES – COMPANIES REPORTING THIS WEEK

Source: I/B/E/S data

In total, companies reported earnings that were 4.4% better than analyst expectations; this is above the long-term average of 2.9% and above the trailing four-quarter average of 3.4%. Nine of the ten sectors had positive earnings surprises, with five greater than the trailing four-quarter average.

After putting up a triple double, the health care sector was this week’s champion. Earnings were 14.1% above analyst expectations and grew 43.0% over Q2 2013. Revenue for the quarter grew 24.3% from the second quarter of 2013 and was 3.7% above expectations. The sector’s starting lineup was the pharmaceuticals, biotechnology, and life sciences industry group; the group’s earnings grew 48.8% YoY and beat estimates by 15.9%. Additionally, a strong top line backed up their bottom line performance. Revenue was up 24.3% over Q2 2013, and 4.7% above expectations.

Gilead Sciences (GILD.O) put on an incredible show this week. Earnings per share for the quarter grew 372% YoY. At $2.36 per share, earnings beat analyst estimates by 31.8%. While Gilead may have put up some impressive numbers, it finds itself in the middle of a controversy, as its strong performance is largely due to its new drug Sovalid, which is hurting others in the sector.

Sovalid is Gilead’s new hepatitis C (HCV) drug, which can cure most patients with few side effects, except for one: treatment costs $84,000. This new medication, launched earlier this year, brought in $3.48B in revenue for the quarter, roughly 53% of the $6.54B Gilead reported. As a result, revenue grew 136.1% over Q2 2013, and beat analyst estimates by 11.4%. One of the reasons the price tag associated with this new HCV cure is so controversial has to do with the question of who will pick up the tab.

WellCare Health Plans (WCG.N), not part of the S&P 500, is one example of where Sovalid’s high cost is negatively impacting the managed health care sub-industry in the short term and could impact taxpayers in the long term. WellCare reported an earnings loss of $0.07 per share compared to analyst expectations of $0.90. Hepatitis C drug expenses were a large driver of its loss, as they increased to $0.30 per share from $0.05 per share in Q2 2013 due to government health care reimbursement issues. In WCG’s earnings conference call, CEO Dave Gallitano said, “Ultimately, we expect to be reimbursed for hepatitis C drugs; but in the short term, the expense is having a meaningful impact on us.”

Gilead remains confident that as more people are cured, the cost benefits of the medication, as opposed to the costs associated with a liver transplant or long-term care, will be recognized. During the earnings call, Gilead’s President and COO, John Milligan, noted that they are already starting to see shifts when he said, “So we have noticed some positive movement of some payers, indicating that they have budgetary room in the second half of this year for this product.”

Allegheny Technologies (ATI.N) had the week’s worst earnings performance, coming in 400% below analyst estimates at a loss of $0.03 per share, down 175% YoY. The miss was largely driven by start-up costs related to ATI’s Hot-Rolling Processing Facility (HRPF) and to its Rowley titanium sponge facility premium quality qualification process. ATI’s $1.1B in revenue beat expectations by 5.3%, but saw negative growth of 1.5% from Q2 2013.

ATI’s CEO, Rich Harshman, looked to the sky after a disappointing miss. In Allegheny’s conference call, Harshman said, “We are on the verge of a major aerospace up cycle that, if not interrupted for a geopolitical crisis or a financial crisis, is expected to last at least into the next decade. We have been preparing for this business cycle improvement through strategic capital investments and acquisitions that have significantly expanded our manufacturing capabilities to meet the current and expected demand growth from ATI’s targeted end markets, including aerospace, oil and gas, chemical process industry, electrical energy, and medical markets.”

Amazon (AMZN.O) had last week’s fourth-largest earnings miss, coming in 80% below analyst expectations with a $0.27 per share loss. This result has many wondering how long shareholders can be expected to wait patiently for profits. The market was clearly disappointed by the magnitude of this loss along with another negative second-quarter earnings report, as shares fell 9.6% to close at $324.01 on Friday, July 25, from Thursday’s close of $358.61.

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