Intel’s Second Quarter Earnings—A real “Green Shoot”

Morris Segall      2009 economy, business landscape, earnings report, economic, economic recovery, economics, GE, Intel, trends

In our July 5th blog entry, “June Employment Report–Green Shoots Fading“, we commented that a doubtful economic recovery expected in the third quarter and pessimistic earnings guidance from companies reporting second quarter earnings this month would in our opinion herald stock market corrections here and abroad near term. Since that posting the Dow Jones Industrial Average declined approximately 5% in the ensuing five trading sessions before rebounding on expectations of robust bank earnings to be reported this week. Indeed, Goldman Sachs reported a “blowout” quarter led by its investment banking activities. However the more significant earning news yesterday came from Intel that reported a surprisingly strong second quarter highlighted by a surge in revenues and unexpected expansion in gross margins from increased unit volumes of consumer products. Even more importantly, the company reestablished earnings guidance for the remainder of the current fiscal year as the outlook for its business became more visible and positive. This is the kind of earnings encouragement that is necessary to sustain the market recovery begun last March. To be sure, Intel’s business turn may be truly singular to itself and not indicative of a broader upturn in the technology sector but as a bellwhether in the industry and in the major market averages, the substantial improvement in Intel’s performance and outlook lead us to believe we are at or near the bottom of the earnings cycle for non-financial companies. Indeed, we feel Intel’s results signal the same kind of shift in corporate earnings we saw at the opposite end of the spectrum in early 2008 when we wrote our article, “GE, the Earnings Cycle and Food”, April 14, 2008. In that article, we noted the deterioration in GE’s first quarter 2008 earnings and the very negative implications for the rest of S & P 500 corporate earnings last year.

The Intel results reflect successful new product introductions, stringent cost control, inventory reduction and strong sales. The strong sales reflect strong demand for PC products from China and the U.S. aided in the latter by bargain selling prices by the company’s resellers and buying stimulus from accelerated write-offs offered by the Federal government. The higher sales volume and cost reductions allowed the company to record much expanded gross margins in the quarter despite lower average selling prices and lower unit margins on consumer products. This has been a theme of ours supporting a positive outlook for common stocks led higher by rapidly increasing corporate profits from increased gross margins from increased unit sales volume.

The new, improved visibility for increased unit sales, continued cost controls and tight inventory control is allowing the company to forecast improved gross margins for both the third and fourth quarters of the current fiscal year which may force analyst earnings forecasts to be raised. This is also reinforcing another of our themes for the recovery cycle, namely the pent up demand for computers that can only be deferred for so long before a new sales cycle begins. Currently, the new demand is coming in consumer products but the company expects business demand to pick up next year for the same reasons. Importantly, the higher end business products carry higher unit margins which should amplify Intel’s earnings when the economy recovers.

Thus, we are encouraged that the Intel earnings report contains the seeds of a bottoming in earnings in the technology sector and possibly other areas of Producers Durable Equipment sector, i.e. capital goods as pent up demand, bargain purchase prices, accelerated equipment write-offs and fast return on investment and increased productivity lead to a recovery in this sector. We expected this sector to be a leading element in the economic recovery forecasted for next year due to short lead times for purchase and profitable returns. The Intel earnings report and new guidance give us reason to believe in that forecast. And yet we still believe in our comments of July 5th that many companies will not have the positive guidance outlooks of Intel, i.e. consumer discretionary, real estate, transportation to name a few. In view of this and the continued weak near term economic environment, we still believe the capital markets are vulnerable near term to the downside as economic and corporate earnings remain weak. Neverthless, our intermediate and longer term outlooks are reinforced by the Intel results.

Morris R. Segall, CFA, CIC

Today’s Economic Landscape and What’s on the Other Side

Morris Segall      2009 economy, business, business landscape, climate, crisis, debt, economic, future trends, globalization, recession, slowdown, strategy, trends, unemployment

We recently updated our presentation on today’s economic landscape and what’s on the other side with some fresh data.  We hope you continue to find value in our slides:

An Open Letter to Congress

Morris Segall      government, healthcare, healthcare plan, insurance, medical insurance, Medicare, obama

Dear members of Congress,

I am writing to you regarding the current debate on President Obama’s national healthcare plan. As you may know I head an economic and capital markets research and consulting firm. My firm and our affiliate, Sage Policy Group, engage in economic and public policy analysis and ideas. Healthcare is one of several policy issues we have and are currently studying.

I have been involved in either administering or participating in private sector insurance programs for most of my 25 year corporate career. More recently, I have had to engage both the public insurance program of Medicare and the private hospital and insurance industry as a result of chronically ill parents who are both incapacitated. As a result, I have developed a keen understanding and awareness of the mortally broken and dysfunctional healthcare system currently in place in our country. After opposing the Clinton healthcare plan over 10 years ago I have come to the realization that comprehensive and affordable healthcare for most Americans must be built around a Federal entity.

The present system based on the private insurance and drug industries has not contained healthcare costs and has not increased the number of insured Americans. To the contrary, medical insurance costs are skyrocketing, even in the midst of this great recession. Many businesses report medical insurance plan increases in 2008 and 2009 well in excess of 20% and employees in those plans are facing higher deductibles and increased insurance premium and co-insurance payments, in some cases of nearly 50%. This at a time when American workers are facing historic unemployment and reduced “take home” pay from wage and salary reductions and fewer hours worked. Seniors on Medicare are now facing exorbitant costs for required drugs as they hit the “doughnut” hole in prescription drug coverage. While the costs of medical insurance and drugs go up, the reimbursements to doctors and hospitals are being reduced causing doctors to either leave practice or refuse to accept private insurance and Medicare patients. The increase in uninsured Americans forces them to seek medical treatment at hospital emergency rooms overwhelming those facilities. Likewise the increase in our aging population is now overwhelming acute care hospitals and nursing home facilities that are facing chronic shortages of trained personnel to care for an increasingly sick patient population. And the costs of hospitalization and nursing home care are crushing. Hospital and related services costs have increased nearly 8% in the six months ended this past May according to the Government’s CPI report.

So after decades of trying to fix America’s healthcare system and control escalating costs what is wrong? What’s wrong is we are asking FOR PROFIT companies that are primarily focused on increasing earnings and shareholder value and paying bonuses to its senior managers for doing so, to make less money by reducing its prices and accepting less than totally healthy insured’s that will “eat” into their profits. Critics of national healthcare raise the alarms of out of control costs, rationed and inefficient treatment in a federal system. Healthcare is already rationed if you are not on a corporate healthcare plan and if you have the misfortune of going to an emergency room and waiting for a physician for up to 12 hours, you will see firsthand the inefficiency of healthcare in today’s environment. This system is broken and will collapse entirely under the weight of the impending case load of the baby boomers. There are national crises that inure properly to the Federal government for solution.

It is now time to recognize the failures of the present system and move boldly toward a federal government health insurance program offering and administering, preferably under a single payor system, comprehensive, diagnostic and wellness programs to all Americans. It is also time to rectify the injustice in the Medicare prescription drug program and eliminate the so called “doughnut hole” in prescription drug coverage for seniors that forces many seniors to either skip their medications or have to choose between their medications and other necessities. But the cost of such a comprehensive federal program you say. How will we pay for it? What will it do to the federal deficit? How can it be run efficiently with some cost effectiveness?

No one is more cognizant of the erosion of U.S. finances than we. We have been warning our clients and audiences since last September when we first raised the specter of the long term cost to our currency and balance sheet from the huge bailout spending programs to resuscitate our economy. Now on top of that spending are ambitious spending programs of the President for energy independence, healthcare and education. The costs of huge federal deficits which we have projected in excess of $2 trillion this fiscal year and nearly that much in fiscal 2010 are already being felt in the currency and bond markets. The costs of such deficits will have to be borne by all of us, consumers and business, in the form of higher taxes and fees. We will also have to be creative in charging for increased government services on a means testing basis including higher co-payment terms for health insurance for those that can afford it. And don’t let the recent spate of propaganda from some medical authorities convince you there are no healthcare cost savings from wellness programs. You and I both know that just isn’t so.

We believe the American public has endorsed an increased federal presence in their lives with the election of a Democratic Congress in 2006 and the sweeping victory of President Obama in 2008 on a populist platform. We believe Americans are willing to pay higher taxes for increased government services and assistance in healthcare, education and energy which are draining middle class incomes and threaten our standard of living. If the U.S. government can spend billions on bailing out GM, AIG, credit card, banks, investment and insurance firms, what is our economic future and public health worth?  Therefore, I ask you to support the President’s proposal for a strong, comprehensive federal insurance program including a payor system. By the way, such a program would be an enormous help to the thousands of unemployed white collar managers, professionals, and administrators who have been especially hard hit in this recession. You might look at a federal health insurance program as the equivalent of the WPA program under President Roosevelt in terms of putting people back to work and helping to resuscitate the economy. Furthermore, this pool of highly experienced managers and professionals is one of the reasons I believe you can implement a large federal healthcare program successfully.

Sincerely,

Morris R. Segall

President

msegall@spgtrend.com

June Employment Report—”Green Shoots” Fading

Morris Segall      business, economics, economy, employment report, unemployment

Thursday’s release of June unemployment numbers has cast a pall over the economic recovery thesis for the second half of this year. The report was pervasively weak. The overall job loss reported of 467,000 was much higher than expected and the breadth of the job losses was even more disappointing. Every industry sector except healthcare saw
increased job losses in June than in May with striking increases in the Professional and Business services and Government sectors. The negative tone and implications of the June report sapped the stock market on Thursday, knocking the major market averages down almost 3% and leading market sectors like commodities down even more.

We believe the June employment report and the attending stock market reaction signal the beginning of the long awaited stock market corrections both here and abroad as the prevailing optimistic sentiment regarding the U.S. economy is now in doubt. This change in sentiment and the upcoming earnings guidance from companies reporting second quarter results this month are expected to put increased pressure on the elevated stock markets. We expect the capital market declines to be led by commodities, particularly energy, which have paced the market gains since March. The weakening economic outlook diminishes the recovery story for materials and energy given a protracted weak demand environment.

Our capital markets strategy of holding significant cash reserves in anticipation of market corrections, while the U.S. economic recovery was in doubt, should provide a cushion to near term market declines but more importantly, provide liquidity to invest in the market at lower prices. We are “bullish” on stocks over the 2010-2012 period and believe the stock market lows of this past March are the cycle lows for this recession. But the markets, particularly foreign stock markets have appreciated very much, very fast and needed confirmation of an economic recovery to stimulate an upsurge in corporate earnings to sustain the recent market strength. Failing that, the markets were in our opinion, fully valued. So we will watch the slope of market weakness to see where it lands but be prepared for at least a 5% to possibly 10% correction, particularly if corporate earnings guidance for the remainder of this year and the early part of next year is disappointing.

Morris R. Segall, CFA, CIC