Q4 Earnings Season: The Good, The Bad, The Ugly

Hello everyone and welcome to the Jarvis Weekly Update. I'm your host and director of research here at Left Brain, Brian Dress. Today we look at the earnings season, the good, the bad, and the ugly. I'm joined from Miami by our CEO, Nolan Langford. Nolan, welcome to the program.

Thank you, Brian. Glad to be here. We have a little sunshine and we got markets to talk. I'm excited.

Absolutely, and plenty to talk about this week. So we usually cover from Friday to Thursday on the Jarvis Weekly Newsletter, and again, we'll remind you everyone, we cover a lot of the topics from the newsletter on the YouTube, but we also cover a lot more topics on the newsletter. So I'm going to put the link in the description box below. Go ahead and follow that link if you want to get the newsletter in your inbox every Saturday morning. With that, Nolan will jump right in. Um, so the first couple of days this week, Friday and Monday, uh, huge rally in the NASDAQ and a lot of the more growthy names. May have been a relief rally. There were positive earnings from Apple. We also saw later in the week Google, AMD, Advanced Micro Devices, and UPS. So that drove a lot of the growth and a lot of the movement in the markets. But we also saw a steep reversal yesterday, Wednesday, after bad earnings report from Facebook. And also from Spotify. Um, so Nolan, before we dig a little deeper into the earning reports, um, what are your overall thoughts on this week's action?

Uh, I would say very choppy, uh, very choppy to say the least. You nailed it, you know, going into last week on Friday, um, the markets were looking weak, and, uh, toward the end of last week we strengthened. We followed that up early this week, which is a really good sign. But as you mentioned, we did get some, some really crucial earnings from the companies that you mentioned. You know, AMD stands out to me and Google stands out. You mentioned the UPS news. And, you know, unfortunately, the market couldn't hold those gains. So it's been an interesting time. This is the busiest week of earnings for the S&P this week. So we're spending hours and hours finding out who's doing well, and who needs to pick it up.

Great. And then we'll just jump right into topic 1. So topic 1 is the good earnings reports. Um, you know, again, earnings is a really important time of the year for us at Left Brain. We look deep, deeply into not only the earnings calls and the, and, uh, everything that management says, but also the market's reactions to those calls. Um, as we said a little bit earlier, we saw very positive earnings reports from Apple and Google, I guess Alphabet we now call it, AMD, but also outside of the tech and growth space in UPS and Exxon as well. So, Nolan, what are your key takeaways from the positive results this week?

So it's interesting, the businesses that do well, that are reporting good earnings, and even, uh, that are doing beat and raises, it's, you know, it's interesting what the market reaction is going to be. So it's one thing how the fundamental business is doing, What we don't know is the investor reaction. And even though a company may have good earnings, we have no idea what the market in this environment is willing to pay for those earnings. And that's why we're seeing these sort of mixed reactions upon the earnings release. What I will say is one of the things that sticks out to me a lot within the growth space, it's really a mixed bag. And it's hard to predict. Who's going to report good numbers and get a good reaction and who's not. It's, uh, it's been tough. But one of the things that, um, that we've learned, it's pretty consistent. If you're in the energy space, you're going to have unbelievable numbers. Just taking a look at ExxonMobil, um, you know, really, which is the face of oil, and you take a look at those earnings, I believe you can go back 10 years before they had a quarter as profitable as the one they just had. So that really stood out to me.

Yeah, let's dig in a little bit more to Exxon. Read a little bit of the call this afternoon. I saw they generated $48 billion in operating cash flow while also saving $5 billion on CapEx over what they expected. So also able to pay down $20 billion in debt and delivered $23 billion in GAAP earnings. So pretty impressive there. Is there a read-through from Exxon to other parts of the market for you?

Uh, within the energy space, there is. There was one surprise. So you're right with the Exxon call. Uh, these, um, E&P companies, uh, exploration and production is, is what we call them for the viewers. Um, it's very interesting, you know, they had a near-death experience. They've had a few over the last 10 years since oil prices peaked at $140 a barrel over a decade ago. They've had a few near-death experiences, the most recent one being COVID, and before that, 2014. But the COVID one in April of 2020 was— I think it was really shocking to a lot of people in the oil business, because oil prices actually went negative. And so what do you do with your product when you have to pay people to take it? And that forced— It was a forcing event for the industry, and it really forced them to have a lot, a lot of discipline. And they're not relinquishing that discipline. What discipline do we mean? Well, they're not increasing production. They're not spending a lot more money looking for new oil. The fields that they have, they are tapping them. And through that near-death experience, it forced them to be very efficient operators, to look for more cost savings, And, uh, now that the oil prices is better, they're not relenting, and you're going to see them continuing to gush free cash flow. What really stood out to me, a lot of these oil companies, Brian, we— you and I have been talking about this in the office, and Freddie as well— is their breakeven costs have continued to fall. And the breakeven cost for a company like Exxon now is below $40 a barrel. It's unbelievable.

It's also— we've said around the office, Exxon and other oil companies, it's a capital return story. And I want to take it back to Apple. They said in their call they returned $27 billion to shareholders. So if you want to draw a line between the oil companies and Apple, it's the capital return story. I think investors are looking for something more sure rather than, you know, profits out in the long distant future.

Yes.

All right, we'll move on to topic 2. So topic 2 is really the ugly earnings reports. Um, we saw a pretty bad report from Spotify yesterday, but I think we want to spend a little bit of time talking about Facebook, which really roiled, uh, the markets on Thursday session. So, um, did a little bit of research, read a bit of the call on Facebook. They talked about a growth deceleration, but also cost acceleration. So they had earnings contraction for the fourth quarter, which is really a death knell for a growth— a growth business like Facebook. And also we saw a major slowing of user growth. So I don't know, are we going to put this in the broken growth category, Nolan? It's showing a lot of those signs.

Yeah. And before earnings, yours truly, this was a story that I was attracted to for a lot of reasons, valuation being one. Dominant social network that's going to be with us for a while, unmonetized digital properties. The shares were all— had already been weak. This reaction really surprised me. Well, the report surprised me. Anytime you're reporting deceleration, increasing cost, and declining users, you know, it's triple Lindy. You're not, you're not going anywhere there. And, um, so that sort of did surprise me. Now, you mentioned broken growth. Eventually, it's interesting, these shares may eventually become a value, uh, it may become a value stock, you know, at some point. Remember, Facebook is cash rich. They have no debt. Uh, they were in the middle of buybacks, and, um, they have a lot of money to invest in their business to re-accelerate growth. So it'll be a name that, uh, you know, will probably grab the market's attention. And if it pops up in some of our work, we'll look at it again as well. But for right now, clearly they're in the penalty box.

And speaking of the penalty box, I want to mention 3 names that I think are all kind of in the same boat. Facebook's one of them, Meta. The second is PayPal, and then the third is Netflix. These are all really, really large businesses that had horrible reactions to earnings. I just want to get kind of your comments on not only how that pertains to those businesses, but also kind of how we view the market's reaction to earnings?

I, you know, a lot of times the market overreacts. Um, in this case, I don't think that's the case. You know, what we look for in our work is acceleration in business fundamentals, and in all 3 cases you mentioned, we had the opposite, which is deceleration. And as an investor, um, you know, it's really a problem. So all 3 of those businesses I think the market reaction, though surprising, was probably warranted. We've kind of seen weakness in growth stocks for months. I think the market's been anticipating a slowdown, particularly for these companies that benefited during COVID PayPal, we're doing more shopping online, of course, you have the digital wallet. Netflix, we're doing more streaming in 2020 when we were locked in. And for Facebook, we probably were spending more time on Facebook because we were shut in the house. And so we've seen weakness the last 6 months where the market anticipated this. What's a little bit surprising is all the weakness that have happened the last 6 months, even on earnings, they still got weaker. So, um, that is a little surprising.

Yeah, seeing 20 to 25% moves on these multi-hundreds of billions of dollars businesses tells you that there's still some, um, there's still some risk there in, in the, in the growth space. So topic number 3 for us is energy. We've been talking energy ad nauseam for the last few months. It's been, um, all over Jarvis this week. 17 of the top 25 stocks on Jarvis were energy. We had some news, OPEC meeting, oil prices kept going higher, and natural gas prices going higher this week, not only because of the Ukraine conflict but also cold weather in the U.S. Nolan, what are your thoughts on energy this week?

I've had a man crush on energy here for, for months, really. And of course, you know, Brian, we've probably spent more time, energy, effort, and money researching energy companies than any other sector. That was, you know, going back several years, and at the time we were really attracted to these energy company bonds because it was a safer place in the capital structure. We're really unsure of the direction of oil prices. Uh, but in April 2020, oil prices went down to zero, as I mentioned, and there was a really big shakeout. This oil price environment looks, um, a lot more sustainable. Again, we're not predictors of commodity prices or interest rates or Treasury bonds or what the Fed is going to do or anything of the sort. We tend to follow the fundamentals, and if you take a look at supply and demand whether it's OPEC curtailing supply, whether it's the underinvestment in our energy fields, or rather it's the edict coming from the White House to be a lot more environmentally friendly. I think what a lot of people don't understand is we need oil to operate. You need it to, you know, to fly any place in the country, to drive, to heat homes. You— abs— asphalt— I mean, you need energy, and as responsible as people want to be, the alternative sources just aren't going to do it. And we used to spend hundreds of billions a year on, you know, looking for energy and drilling new wells, and that's almost completely come to a stop. And we haven't had a new huge oil discovery really in decades, so we're depleting what we found decades ago when we were spending money looking for it. And now we're paying the price for that. And I think people think, hey, if prices go up, well, we're just going to tap wells and bring it on the market. But it takes, you know, if you know where the wells are, these oil companies do, and you start out because you know where they are, you know that oil's in the reservoir and you just want to tap it and bring it to market, you're talking months, not days, not weeks, and not 2, 3 months. You're talking about 6 months or more. That's if they know where it is and the equipment is there and it's a drill but uncompleted completed well. If you're starting from scratch, you're talking years. But that is the backdrop. I think people have the story wrong, which is why we have confidence that oil prices are pinned. We're not forecasting they're going to shoot to $140 again like they did. Was it '08 or something? That's not what we're predicting. However, I would be shocked if oil prices go below, you know, $50 or so. over the intermediate term. And even at $50, these companies are wildly profitable. And as you mentioned earlier, Brian, they are returning the cash to shareholders. They have religion.

We ought to mention that demand is back for the most part in the energy business, and supply is tight. So, um, those two things together create a difficult— in, or an environment that's going to make prices go higher. And with breakevens as low as they are, I think it's very favorable for oil companies. So again, click the description below to get signed up to receive the newsletter if you're not already doing so. We're going to cover a few more earnings reactions, a look at high-growth stocks over the last 5 years to give you context of current prices. So all that and more in the Jarvis newsletter this week. Thanks again, Nolan, for being with us, and thanks to our listeners. And Nolan, any final thoughts?

Yes, I'd just like to tell listeners, stay warm. I know we have a huge storm going in a lot of parts of the country. I know our hometown of Chicago is really getting pounded. Um, so if you're going to be in the house this weekend, hop on over to Left Right Investment Research, LBIR, and pick yourself up a subscription so you can read our work.

Thanks, Nolan. We'll see you again next week.

Have a good week, everybody.