Q2 2022 Earnings Roundup 7.30.2022
Summary of recent economic events, portfolio earnings score card, and a look into earnings from companies including UNH, ISRG, META
Earnings season unofficially kicked off in the middle of July as large national banks including JP Morgan Chase, Morgan Stanley, Wells Fargo, and Citigroup reported earnings.
There has been a lot of activity since then, and the last week of the month was particularly busy.
On Monday, July 25th, Walmart lowered their outlook for the year. They expect operating income to decline between 10-12% for the year, a drastic change from the 1% decline expected as of May. Walmart warned that higher food and fuel prices were causing consumers to pull back. This trend could dampen economic growth as household spending accounts for 70% of U.S. economic output.
On Wednesday, July 27th, the Fed issued their FOMC statement, hiking rates another 0.75% and taking the benchmark rates to a range of 2.25-2.50%.
On Thursday, July 28th, the Q2 GDP report was released. GDP fell at a 0.9% annualized rate in the second quarter, following a decline of a 1.4% annualized rate in the first quarter. Although not exactly the technical definition, two quarters of declining GDP is a common, colloquial definition of a recession.
Throughout the week, over a quarter of the S&P 500 companies reported earnings, including some of the largest companies such as Alphabet, Microsoft, Apple, Meta, and more.
While some of the headlines may seem dim, the market has been building momentum. In fact, the Nasdaq had its best month since 2020, gaining nearly 13%.
Negative headlines have started garnering positive reactions. The 9.1% inflation report, interest rate hike, and GDP report were followed by positive price action. Netflix, which has had a challenging year, missed expectations yet again. The miss was less bad than expected. Shares rallied.
The relative strength in high beta, or high growth, companies has been called out in prior articles.
While there have been positive developments and constructive price action, there is no guarantee that the bottom has passed. It will be important to see the positive momentum continue. Keep an eye out for higher lows and higher highs.
Q2 2022 Portfolio Earnings
Over a third of our portfolio companies reported earnings in the last two weeks.
Even in the midst of challenging macroeconomic times, our portfolio companies are generally demonstrating strong revenue growth and superior margins.
A few companies are highlighted below.
UNH
UnitedHealthcare Group, the “health care and well-being company with a mission to help people live healthier lives and help make the health system work better for everyone,” continues to demonstrate a balance between healthy growth and profitability.
UnitedHealthcare is a recession-resistant business. Healthcare insurance is unlikely to get cut from anyone’s budget, as evident by the steady revenue growth since the pandemic.
For the quarter, revenue came in at $80.3 billion, an increase of 13% year-over-year. EBITDA came in at $7.9 billion, roughly 10% of revenue.
The company has a very efficient capital structure, boasting a 27.9% return on equity, and a healthy business with a 12.5% return on invested capital & 15% free cash flow return on capital.
In the 2nd quarter, United Healthcare returned $4 billion, roughly 0.8% of the market cap, to shareholders through dividends and share repurchases. The dividend was increased by 14% in June 2022.
ISRG
Intuitive Surgical, leaders of robotic surgery and creators of the DaVinci surgical system, reported earnings on July 21st.
Revenue came in at $1.52 billion, an increase of 4% year-over-year. EBITDA came in at $484 million, for a margin of nearly 32%.
In the second quarter, the company repurchased $500 million of common stock, and in July 2022, they increased their buyback program to $3.5 billion, representing roughly 4.2% of the market capitalization.
This quarter was the company’s first miss on both earnings and revenue since Q1 2019. Covid has continued to delay procedures, and the strong dollar has also been a headwind on international sales.
One data point doesn’t make a trend. The economy has been swinging quite radically these last few years. In the long term, procedure volume, and therefore sales, are likely to return to growth.
Intuitive has a strong moat, spanning from the technology, hardware, software, and data to the various clearances required to market a surgical device, as well as medical professional onboarding and training required. That being said, it is important to monitor activity and ensure sales do recover. I expect sales to return to double digit growth over the next two years, and will monitor for signals demonstrating that trajectory.
META
The parent company behind Facebook, Meta, reported Q2 earnings on July 27th, 2022.
Meta reported revenue of $28.8 billion, a year-over-year decline of 1%. Operating income was $8.3 billion, or 29% of revenue.
Meta has $45 billion in cash and cash equivalents.
Meta repurchased over $5 billion of common stock in the second quarter. They have $24.3 billion, or 5.6% of the market cap, remaining in their buyback program.
Q2 2022’s year-over-year decline in revenue marked the first time growth declined since going public. Meta has been facing ongoing headwinds including iOS privacy changes, increasing competition, and the broader macro economy.
On the positive side, gross margin was up to 82% from 78% the prior quarter. Meta is reducing expenses to focus on profitability. Importantly, engagement showed an uptick with daily active users (DAUs) increasing 3% year-over-year, and monthly active users (MAUs) showing a 1% increase.
Meta has been responding to competitors, namely Tik Tok, with Reels seeing increased engagement. While it has crossed the $1b annual revenue run rate, Reels is still under-monetized compared to Feed or Stories.
Meta is essentially a value stock at this point. Our focus on compounders does call for growth. We’ll want to see growth return, and expect to see double digit growth return over the next two years.
Additional commentary
Moody’s (MCO) was another portfolio company showing softness this quarter. As a credit rating company, Moody’s saw increased volume last year as companies sought to take advantage of low rates. The boon from a year ago led to difficult comps, and stacked on top of rising rates and lower volume, resulted in an 11% decline in revenue and decreased guidance. Moody’s is a proven company with a strong moat, effectively in a duopoly with S&P Global. We will monitor to ensure things stabilize throughout the year.
Other portfolio companies fared very well.
As they benefit from inflation and recovery of travel trends, Mastercard and Visa both continue to demonstrate superior performance with double digit revenue growth and unrivaled profitability. In contrast to Walmart’s warning, Mastercard’s CEO Michael Miebach reported "increasing inflationary pressures have yet to significantly impact overall consumer spending.”
Big tech had strong results, particularly bolstered by robust guidance.
Microsoft’s Q2 earnings were impacted by a slowdown in China and foreign exchange headwinds. Looking forward, Microsoft reiterated prior guidance, calling for double-digit revenue and operating income growth for 2023, to which analysts said the “bullish guidance for FY23 will be heard around the world and Street.” Azure, Microsoft’s cloud computing platform, guided for 43% growth. Microsoft mentioned continued demand, not seeing any weakness in large corporate deals.
Alphabet, Google’s parent company, grew revenue nearly 13% against challenging comps. Results showed strength in Search with revenue up 13.5% year-over-year and Cloud with revenue up 36% year over year. Cloud, providing significant opportunity for continued growth, represents just over 9% of Alphabet’s revenue.
Amazon surprised the market with a strong report, posting revenue growth of 7.2% on top of tough comps and guiding for growth between 13-17% for the next quarter. Earnings missed expectations due to a markdown on their investment in Rivian Automotive. In contrast to other retailers, Amazon was able to manage inventory and showed resilience in consumer spending. Amazon is more concerned about inflation and controlling related costs. In their cloud computing segment, Amazon Web Services growth accelerated to 33% year-over-year growth.
Closing
Our portfolio companies have generally shown strength in the midst of a difficult and uncertain environment. The ability to reinvest in their business at attractive rates is core to the thesis underlying compounders. We’ll continue to hear from portfolio companies throughout August, with the last company reporting in early September.
After 6+ months of selling, the market seems to have priced in a dim outlook. As companies report and provide clarity, the market is able to readjust and climb against a wall of worry.
Rising rates and the strong dollar are two headwinds impacting companies across the board. If those show signs of the peaking, the market could perhaps continue its climb.
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Torre Financial is an independent investment advisory firm focused on emerging and established compounders.
Federico Torre
Torre Financial
federico@torrefinancial.com
https://torrefinancial.com
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