Earnings season: The outlook is key

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Kudzanai Sharara Taking Stock
The earnings season has started in earnest with at least five listed entities having reported results for the period ended 31 December 2017.

BAT, Afdis, Zimplow and ZB Financial Holdings reported a plausible set of results showing double digit growth in both volumes and revenue.

Growth in revenue only would have been a worry, had it not been accompanied by a growth in volumes, as this would have been affected by the price distortions witnessed in the market for the better part of the reporting period.

The reporting period, particularly the second half, witnessed a wave of price hike madness by producers, wholesalers and retailers.

On September 22 and 23, 2017, the country experienced price hikes on various commodities and since then prices have not returned to their normal levels, with players in the value chain putting up prices resulting in revenue growth not backed by productivity and increased sales.

BAT for example saw its total sales volumes for the year increase by 10 percent, more than the 8 percent growth in revenue. This is the ideal situation as it reflects a growth in the business. At Zimplow, although sales volume growth was not as high as that of revenue, it was still significant.

In contrast, Afdis saw its revenue grow by 18 percent, while total volume was on a decline by 5 percent suggesting the revenue growth was on the back of price increases although there are also chances that the group could have benefited from a shift towards high value brands.

Of significance is the whisky category which grew by 7 percent, aided by the newly introduced Gold Blend Black.

However, what investors prefer to focus on is the message from management about where the business is going and the profits the company is expected to make in the year(s) ahead. You can’t drive forward using the rear-view mirror. Investors buy future profits and growth.

BAT’s outlook segment accompanying its results for the year to December 2017 offers very little in terms of what investors can expect from the company going forward. The company talks about delivering growth for its shareholders but does not disclose the extent of that growth.

“Although trading conditions are expected to remain challenging in 2018, we are confident that through our effective business strategies, the equity of our brands and the quality of our people; the company will continue to deliver growth and value for its shareholders,” said BAT.

But is this enough for an investor to make an informed decision? Investors invest in a company-based on future cash flows as well as growth in revenue and profits and a little more guidance from management would be welcome.

While analysts can come up with forecasts, these should be complimentary to those of management. Investors deserve more information, more than a few lines that talk about “hope” and how “encouraged management” is by the new Government. There is no talk about budgets in terms of sales volumes and revenue or talk about plans to invest, expand operations or recruit.

One of the reasons why there is little reaction to earnings by listed companies on the Zimbabwe Stock Exchange is that there is nothing to compare those results with, something which can be done if forecasts were provided.

Results that come in-line with management guidance would naturally draw muted reaction from investors as this would have been priced in already, but those that come better than expectations will see share prices rallying.

Likewise when management forecast a better outlook than consensus of (for example) 10 percent growth next year vs. consensus 5 percent, it will result in a share price rise as investors re-price for higher future profits. If management forecast a worse outlook, say a 10 percent decline, this might result in a decline as investors re-price for lower future profits. And this is how things should work.

If a share has a dividend yield of say 10 percent in the current year but is only going to record a dividend yield of say 3 percent going forward, this will render the shares far less interesting to income seekers.

As much as investors look to see how revenues and profits did versus expectations, the outlook is what should determine investment.

In some cases, results might even be worse but outlook better and this will support or rally the share price.

The bottom line is that shares are priced to discount the value of future earnings. If the value of those “future” earnings is now higher or lower, the share price will need to be re-priced up or down.

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