The Tech Sector's Strong Earnings Power

We will see if this week’s earnings reports from Apple (AAPL) and Facebook (NASDAQ:FB) (FB) can sustain the strong showing from many other Technology players in recent days. The sector’s Q1 results and management’s commentary for the current and coming quarters support Technology stocks impressive stock market performance this year (the Zacks Tech sector is up +11.2% year-to-date vs. +6.8% gain for the S&P 500 and +3.7% for the Russell 2000).

The Technology sector’s Q1 results are building on the momentum we have been seeing this earnings season from a diverse cross-section of companies. Not only is an above-average proportion of companies beating estimates, particularly revenue estimates, but growth has continued to accelerate from the pace that we have been seeing in recent quarters and is on track to reach its highest level in many years. Importantly, estimates for the current period (2017 Q2) appear to be holding up nicely as well. The continuation of these trends through the rest of this earnings season should serve as a reassuring development for the market.

Key Earnings Reports for the Week of May 1st

We are past the halfway mark in the Q1 reporting cycle for the S&P 500 index, with results from 288 index members already out, as of Friday April 28th. This week brings in results from more than 1000 companies, including 126 from the S&P 500 index. There is no shortage of big-name operators coming out with results this week, but we are featuring three of those here:

Gilead Sciences (NASDAQ:GILD) (GILD) – Gilead reports results after the market’s close on Tuesday, May 2nd. The stock is down -4.3% in the year-to-date period, underperforming the Zacks Biotech industry’s +4.8% gain and the Zacks Medical sector’s +6.8% gain. The stock has done poorly in response to each of the last four quarterly releases, irrespective of whether it beat estimates or not. A key issue in the Gilead story has been the company’s excessive reliance on its two products in the hepatitis C and HIV markets that combined account for almost 90% of total sales. The hepatitis C product has been a big revenue and cash flow driver in recent years, but currently faces an uncertain pricing outlook and tough competitive marketplace and the HIV product is on track to lose patent. It is this uncertain outlook for these two key products and limited pipeline that has been the key stock driver lately.

Apple (AAPL) – Apple will report results after the market’s close on Tuesday, May 2nd. The company is expected to report $2.01 per share on $52.6 billion in revenues, up +5.9% and +4.1% from the year-earlier levels, respectively. The stock was up strongly on the last earnings release when it handily beat on the top- and bottom-lines and showed impressive momentum in its services business that management guided towards doubling over the next four years. The stock has been a solid performer since the last earnings report and is currently up +24% in the year-to-date period, handily outperforming the Zacks Tech sector (up +11.2%) and the S&P 500 index (up +6.8%). The focus in the quarterly report will be the iPhone shipments and commentary about the iPhone 8 cycle along with iPhone ASPs (average selling price) and gross margins. The company’s China performance will also be important, though a number of the China metrics will have relatively easier comparisons. Apple’s enormous weightage in the Tech sector as well as the S&P 500 index guarantee that its results will move the aggregate growth pace. After all, the iPhone maker is expected to bring in an estimated 18% of the sector’s total earnings in Q1.

Facebook (FB) – Facebook reports Q1 results after the market’s close on Wednesday May 3rd. The company is expected to report $0.88 per share on $7.8 billion in revenues, up +54% on +45.9% higher revenues from the year-earlier period, respectively. The stock didn’t do much following the December-quarter results, but was down following the September quarter report even though it handily beat EPS and revenue estimates. Facebook has never missed revenue estimates, though it came short of EPS estimates in its first three quarterly releases as a public company and a few times after that, but has been beating estimates consistently since the September 2015 quarter. The stock’s performance has been very impressive lately; it is up +30.4% in the year-to-date period vs. +6.8% gain for the S&P 500 index. Given these strong gains in the run up to the release, the stock could be risk of losing ground if trends in monthly active users or monetization trajectory for Instagram turn out to be less than perfect.

Q1 Earnings Scorecard

As of Friday, April 28th, we have Q1 results from 288 S&P 500 members that combined account for 63.8% of the index’s total market capitalization. Total earnings for these companies are up +13.7% from the same period last year on +8.2% higher revenues, with 76.4% beating EPS estimates and 68.1% beating revenue estimates. The proportion of companies beating both EPS and revenue estimates is 55.2%.

The table provides the current earnings season scorecard, as of April 28th, 2017.

Comparing Q1 Results

The chart below provides a comparison of the growth performance thus far with what we have seen from this same group of 288 S&P 500 members in other recent periods.

As you can see, the Q1 growth pace is notably tracking above what we had seen from the same group of 288 index members in other recent periods. Importantly, the growth performance is broad-based and not narrowly concentrated. We got the leadership from the Finance space earlier in the reporting cycle, but the baton has since shifted to Tech and host of other areas, including Industrials, Basic Materials, and Energy.

Positive Revenue Surprises

The chart below compares the proportion of positive EPS and revenue surprises in Q1 thus far with what we had seen from the same group of 288 index members in other recent periods.

The proportion of Q1 companies beating EPS estimates is tracking above historical periods, with positive revenue surprises particularly coming out ahead of what we are used to seeing in the recent past. You can see the same in the chart below that compares the proportion of Q1 companies beating both EPS and revenue estimates with other recent periods.

Technology Sector Scorecard

For the Technology sector, we have Q1 results from 30 of the sector’s 62 operators in the S&P 500 index. Total earnings for these 30 Tech sector companies (accounting for 57.4% of the sector’s total market cap in the index) are up +17.7% from the same period last year on +6.2% higher revenues, with 80% beating EPS estimates and 73.3% beating revenue estimates.

The comparison charts below show how the sector’s Q1 results thus far compare with what we have been seeing from the same group of Tech companies in other recent periods.

As you can see, the sector’s growth performance is notably tracking above other recent periods, though the proportion of positive surprises is about in-line with recent history. The growth momentum will most likely get a further boost from this week’s Apple and Facebook reports.

Expectations for Q1 As a Whole

Looking at Q1 as whole, combining the actual results from the 288 S&P 500 members that have come out with estimates for the still-to-come 212 index members, total earnings are expected to be up +11.2% from the same period last year on +6.2% higher revenues. This would follow +7.4% earnings growth in 2016 Q4 on +4.8%.

The table below shows the summary picture for Q1, contrasted with what was actually achieved in Q4.

Please note that the Q1 earnings season follows the strong showing on the earnings front in the preceding reporting cycle. Not only did 2016 Q4 growth reach the highest in two years, but total earnings for the quarter also reached a new quarterly record. The strong Q4 performance came after the first positive earnings growth in 2016 Q3, having declined in each of the preceding 5 quarters. The strong Q1 showing represents a notable acceleration in the growth momentum.

The chart below shows the Q1 earnings growth contrasted with what is expected in the following three quarters and actual results in the preceding 5 quarters. As you can see in the chart below, this growth pace is expected to continue through the rest of the year.

Please note that the earnings backdrop has not changed in any meaningful way since the November elections, notwithstanding the market’s strong gains since then.

Note: Sheraz Mian manages the Zacks equity research department. He is an acknowledged earnings expert whose commentaries and analyses appear on Zacks.com and in the print and electronic media. His weekly earnings related articles include Earnings Trends and Earnings Preview. He manages the Zacks Top 10 and Focus List portfolios and writes the Weekly Market Analysis article for Zacks Premium subscribers.

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Here is a list of the 1013 companies including 126 S&P 500 members reporting this week.