Just before the reporting season, some investors had already positioned themselves in anticipation of various companies’ expected earnings. However, the story has not been pleasing so far. Rather, too many of these companies are showcasing results which are below market expectations.
Early this week, Truworths released a poor set of results for its half year to January 8, 2012. Revenue went down by 9% to US$12.5 million. All profit margins collapsed significantly as the group witnessed a surge in operating costs. Trading margins were down to 8,4% from 17,4% in January 2011, while operating profit margins were 7,9%, a decrease of more than 50% from 16,4% in January 2011. The group registered a 56% decline in net profit to US$698 000, in a market where investors were most likely not expecting anything below US$1 million in profits.
Management attributed this dismal performance to liquidity challenges experienced in November and December. Traditionally, December accounts for 45% of revenue and 80% of profits. Thus, the depressed activity during that period this year was a major drain on both their revenue and profit. Further, due to the high default rate in the market, Truworths is being more stringent on account openings. Actually, they are not very keen in opening new accounts at all. In addition, Truworths has been facing competition from a number of informal traders who are now in the same line of business.
Considering their pricing, Truworths are not very competitive and in the wake of competition there is great potential for losing sales. An average monthly amount spent in Truworths is US$148, which will probably purchase only one clothing item in their stores! With all such constraints, it will be difficult for Truworths to grow its income. Limited disposable incomes will not encourage consumers to spend more.
Considering the rising cost of living, consumers will have less to spend on items such as clothing as more will be channelled to immediate necessities such as food. Credit terms are most likely not going to be reviewed upwards owing to the shortage of long-term financing in the economy. In addition, the business will try to cushion itself from default risk. The group looks like it might just be facing tough times ahead.
Although not as surprising as the Truworths financials.
Turnall’s results also fell below market expectations. Unlike Truworths, Turnall managed to register topline growth of 49%. However, higher costs resulted in lower margins than in 2010. The major highlight was the spike in finance costs, by more than 450%, to US$2,3 million. This was following the increase in short-term borrowings which surged to US$12,5 million from US$2,9 million in 2010. Management mentioned that the increase in borrowings was due to the need to maintain high fibre stockholding levels in order to deal with long lead times.
Currently, the company imports chrysotile fibre from countries such as Brazil and Russia since the local chrysotile asbestos mines remain closed. The cost of importing is double what they would have paid locally had the local mines been operational. Despite the unexpected increase in the finance charges, Turnall managed to make a profit of just less than US$4 million, which is a 16% increase from last year. Notwithstanding that, market expectations were higher. For some, Turnall was viewed as a growth stock and the level of earnings they attained was below anticipation. Others were pleased with how they managed to turn around their business in 2010, in response to changes in their export market.
In other words, Turnall had set itself high standards when the economy dollarised and most investors had not envisaged a drop in performance in the near future. However, it seems that they are feeling the brunt of high borrowing costs due to expensive short-term debt and the fear is that this might end up eating further into their profitability, just like it is doing in other companies.
Barclays, on the other hand, released results which deviated little from what the market had forecast. Although their results were nothing to smile about, they were reflective of their conservative lending culture. Net interest income increased by 140% to US$6,7 million. However, it is still way below what its peers with their level of deposits are achieving. Barclays’ loan-to-deposit ratio remains very low at 27%, an indication that the bank has not shifted from its culture of prudent lending.
This might have worked favourably for them as banks which took up an aggressive approach are currently faced with a huge book of non-performing loans. The downside to the conservative lending culture is the trade-off with profitability, which remains relatively lower because of low interest income. For the period Barclays made a net profit of US$1,4 million, which is better than the loss of US$1,3 million attained in 2010. In as much as their lending culture is much safer, the bank’s deposits are under-utilised and this will always hamper profitability. Investors will continue to rate it on performance and the share price will always suffer because its results are never exciting enough to propel investors to buy.
So the question is, do these companies’ results reflect what to generally expect this reporting season? Disappointing results from the previous star performers such as Turnall and Truworths are a cause for concern. It seems that the liquidity crisis is much more serious as we have already seen its impact on business activity.
The banks should be more interesting as their performance should also reflect the liquidity crisis that has gripped the market. However, it is highly likely that most banks might under-provide for bad debt on their loans as usual and mislead the public on the purported quality of their loan books. The question is, for how long can they keep doing this? Can this not lead to another banking crisis? Only time will tell.
Although we have seen some satisfactory results from Zimplow and Fidelity, the rest seem to be a struggling lot. One reason could be that in 2010, companies were coming from a low base and could get away with phenomenal increases in income and profit. However, 2011 has shown the true state of how these businesses are faring as some have even reversed previous gains while others seem to be slowing down.
We are, however, in the preliminaries of the reporting season. But the results already released do not reflect an encouraging picture at all and it might be safer for investors to prepare themselves for further unwelcome results.