Earnings continue to roll in, though they’ve had little impact to the market’s narrative thus far. The focus has been on the resurgence of small caps (see Chief Market Strategist Ryan Detrick’s blog here), and my, what a week it has been. While we do expect the earnings reports of the large technology companies to have a meaningful impact on the market, the current trade is dominated by rate cuts and economic expectations. That said, after scouring the company reports, here are a few of this week’s earnings standouts.
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Charles Schwab – Shares of the discount brokerage firm plummeted more than 17% in the two days following its disappointing earnings report. Recall a year ago, Schwab fell on tough times as investors moved idle cash balances to higher yielding options like money markets or certificates of deposit (CDs). Having invested client’s idle cash in medium duration bonds to earn interest income, Schwab scrambled to generate liquid cash for clients to move. Ultimately, the company borrowed more than $50 billion in expensive short term debt. The cost of servicing this debt has significantly impacted the company’s earnings, dragging them down by more than 25%. Despite making progress on paying down these borrowings over the past three quarters, Schwab unexpectedly needed to borrow more in the second quarter. This raised concerns among investors about its ability to pay off these loans and improve profitability. Further, the CEO noted plans to shrink the balance sheet over time to reduce volatility associated with interest rates. While this lessens capital intensity, a positive, the lack of details was unnerving. Additionally, net interest income accounts for half of Schwab’s sales, leaving investors to wonder how it will replace this source of revenue as the asset base shrinks.
Domino’s Pizza – The world’s largest pizza chain reported an impressive earnings beat as its US stores continue to see a healthy reacceleration in growth. Same store sales in the US grew nearly 5%, which is a marked improvement from the flattish growth exhibited last year. Franchises are benefiting from its new partnership with UberEats, and the company is excited about the recent launch of its New York-style pizza crust. However, shares fell more than 13% after the company cut its long-term expectations of international store growth. Investors expected Domino’s to open more than 925 new stores internationally over coming years, but management withdrew that guidance and now expects to fall short by more than 200 stores. This is unfortunate because it begs the question, has Domino’s reached the point of saturation? A good quarter but it sewed doubts about the longer-term.
Taiwan Semi – The largest semiconductor foundry delivered solid results and provided an encouraging update about its customers. Sales grew 35% year-over-year, and the company raised its full-year guidance by nearly $3 billion. Management expects growth to be supported by strong AI demand, noting that it has observed even greater AI demand from its customers over the past three months. This bodes well for the AI sector, particularly for Nvidia, which rallied on the news. Despite recent market turbulence, AI demand appears to remain very strong. However, the company faces significant geopolitical concerns due to its proximity to China. With the Biden Administration contemplating more restrictive export controls, the growing demand for AI could be offset by reduced shipments to China.
Netflix – The company once again shattered expectations for new subscribers, more than 8 million versus consensus expectations for less than 5 million. However, this marks the final quarter of easy comparisons since they began the password crackdown in Q3 last year. Going forward, subscriber growth will likely be more muted, though profitability should continue to increase at a brisk pace. As the streaming giant passes 275 million subscribers, the saga is coming full circle. In 2011, Netflix began making its own content because the legacy Hollywood companies it relied on were starting to get serious about their own streaming ambitions. Over the past 5 years, nearly every major studio has come to market with a streaming app where their content is exclusively available. With many of these competing apps failing to reach scale, and the legacy studios struggling to survive, they are increasingly turning back to licensing content to Netflix again. While Netflix’s explosive subscriber growth may be peaking fifteen years after launching the world’s first streaming platform, the increasing profitability of the business has a long runway ahead.
For more content by Jake Bleicher, Portfolio Manager click here.
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