Novellus (NVLS) and CSX (CSX) Earnings Reports

We won't have time to do much of this in the coming weeks since there is an avalanche of reports to review, but yesterday was a light day of earnings so I am going to lay out some of the things I review on my own time, on the blog. As long time readers will know, I ignore almost all the government reports because they are so flawed; the only reason we are forced to pay attention is because the lemmings of the stock market react to them as gospel. For example just last week we had all the retailers report - yet today we ignore everything they say and clutch to a government report on retail sales. A report that showed better than 'expected' mostly because... gasoline prices were higher. (i.e. consumers had to spend more because gas prices were up - green shoots) Exactly the same justification for a "good" government retail report a month ago. Why waste the time? - companies are the way to learn about what is really going on but even with them you can't focus on the "art" of earnings (apparently many spend 10 seconds reviewing earnings and seeing if they "beat or miss" - enough analysis for them) - instead look a few layers deeper within the onion: revenue, margins, "how they made the bottom line" and commentary that is not just the "hopeful" forward looking nonsense.

2 major earnings reports last night - Novellus (NVLS) and CSX (CSX); the former is in the very cyclical semi space; basically similar to Applied Materials (AMAT) in semi equipment and the latter is a railroad.

Pretty similar stories to both, and exactly as we predicted. Revenue (which cannot be gamed) stunk; they are holding their head over water by chopping a lot of humans, right sizing the business and finishing off with the "we are seeing stabilization" or "bottoming" boiler plate CEO commentary. Almost exactly the same playbook as 3 months ago, and it's working again for both - despite a large miss (and being down yesterday after hours) NVLS is up 2% for the day and CSX is up 7%. So this says to me, people's expectations are still low and as long as the CEO repeats the exact same tag lines of 3 months ago, we're good. At least for now.

CSX is more important to me as a tell on the US economy but technology has been our leadership group, so in terms of "keeping Wall Street propped up" the semiconductor story is very important. I am frankly a bit surprised with what I read that investors are happy with NVLS but that's why playing "earnings gambling" is not for me; not only do you have to guess the results but then you have to guess the knee jerk reaction to the results. As for CSX I have to say its splendid it is able to remain profitable in such a crummy environment; when world trade resumes at a more normalized pace, this should bode very well for profitability. They might even rehire some of their workers... bonus.

CSX (CSX)

Via TheStreet.com

• CSX(CSX), the railroader, surpassed Wall Street targets with its second-quarter earnings Monday, and said that it sees indications of a bottom developing in some of the markets it services. (of course the last phrasing is all that matters to the stock market)
• The company said it earned $308 million, or 78 cents a share, down from $385 million, or 93 cents, in the year-earlier period. To account for the sale in March of the tony but bankrupt Greenbrier resort in West Virginia, CSX said its profit from continuing operations in the second quarter was 72 cents, compared with 95 cents a year ago. Either way you look at it, CSX beat expectations by a large margin. Analysts were looking for EPS of 62 cents.
• Revenue, however, still compared badly with 2008. CSX said its second-quarter top line fell 25% from a year ago to $2.2 billion. The company blamed the declines on sharply lower volumes and a lesser fuel surcharge compared with a year ago.

Not to worry, "optimistic phrases" were located:


Via Barron's

• Rail operator CSX (CSX) has been having one of those fundamental performances increasingly typical of companies acutely sensitive to economic fundamentals: conditions got worse throughout the second quarter of 2009, but as they closed out the period, those things stopped deteriorating at the pace to which they’d become painfully accustomed.
• Take its coal business: the slump in coal shipments widened significantly in the period, falling 21% in the second quarter, three times the rate of decline the rail experienced in the first quarter of the year. (that's actually horiffic and a 2nd derivative NON improvement, considering how awful 1st quarter was in the real economy) Reduced usage by electric utilities, lower natural gas prices and slumping exports all contributed to the downturn.

So things got worse in the quarter, even though managements across the land said they were seeing improvement or stabilization 3 months ago. And that's why we drove stock prices up - remember, 2nd derivative improvements? So in coal for example that improvement did not happen - yet we still drove stocks up on ANTICIPATION it would happen. When it doesn't happen what do you do?

You repeat the same language. Try try again - and one of these quarters your words will come true.

• But management said that the slide is expected to moderate in the third quarter, but without saying the trend is going to improve.

Overall

• The takeaway from the conference call would appear to be that its end markets are stabilizing at current levels. That’s good enough to allow some investors to get a little optimistic about its outlook.

So that language is not even saying there is any improvement; it's simply saying stabilization at quite possibly the worst levels of economic activity in 6-7 decades. Green shoots.

Via AP

• Railroad operator CSX Corp. said Tuesday it expects shipping demand to sink by double digits again this quarter, but not as drastically as in the second-quarter, as the company looked for signs of an economic recovery.

Again, we were wrong on last quarters "2nd derivative improvement" forecast but we'll roll out the same language this time.

• Jacksonville, Fla.-based CSX's shipping volume fell 21 percent in the April-June period, compared with 22 percent industrywide.
  
• The number of active train and engine workers was down 17 percent, and the number of its signature yellow and blue locomotives dropped by the same amount.
• The company didn't offer an earnings outlook, but said it now expects to get more money from raising prices this year among its existing customers -- about 75 percent of its annual business. It predicts it will now be able to increase prices by 6.6 percent this year, compared with a previous estimate of 5 to 6 percent. (it's nice to be near monopolies, and this is why Mr. Buffet loves the rails - you can raise prices even in THIS type of environment)

So it's great for Wall Street. For Main Street? Not so much.

• Ward said that cost cuts should continue to buoy sinking demand this quarter. In the second quarter, the company slashed expenses by 27 percent from a year earlier -- mostly through labor reductions.

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Novellus (NVLS)

Via Reuters

• U.S. semiconductor equipment maker Novellus Systems Inc (NVLS) posted disappointing margins and a wider than expected loss, but a robust forecast helped limit share losses in late trade.

I don't follow NVLS closely but I am sure if I pulled the report from last quarter it would be almost identical to what is said above... "bad results, stable forecast - green shoots". Similar to CSX, if you are wrong in your happy talk, just repeat it again for the next quarter. Eventually a broken clock will be correct.

• Many investors had bet on a gradual recovery in the chip sector and a bounce in profits for players such as Novellus. Analysts had hoped for Novellus, which competes with larger rival Applied Materials Inc (AMAT), to report fatter margins in line with cost-cutting and a market recovery. "The margin actually came in a little weaker than what people were thinking," said Needham & Company analyst Edwin Mok. "People were expecting the margin to expand sequentially from last quarter to this quarter but it did not."
• "Expectations were clearly that they would be at the high end of guidance or even beat the guidance," he said.
• Novellus Chief Executive Richard Hill said on a conference call he expected revenue of $150-180 million in the third quarter, down 30 to 42 percent from a year ago but sharply better than a 54 percent dive in second-quarter turnover to $119 million, year on year.

So sales are cut in half this past quarter; a quarter I am sure 90 days ago they were saying would be better than the 1st quarter. Again, keep selling the hope - and now we say 3rd quarter will only be down (what a huge range) anywhere from 30-42%, which will be quite the improvement from 54%. Green shoots.

• Novellus reported a net loss of 52 cents per diluted share in the quarter ended June 27. But excluding items such as a $15.9 million charge for workforce reductions and scaling back parts of its business, Novellus reported a loss of $39.3 million, or 41 cents a share. Analysts on average had expected a loss of 38 cents a share, according to Reuters Estimates.

Translation. We lost a lot of money. Even when you exclude the 1x charges for firing a lot of people that only in American accounting "don't count", we still missed analysts expectations. Thankfully, 1x charges never hurt earnings in PE ratios because again - they don't count. That said, we were not profitable anyhow, so it's a moot point. But just wait until we are profitable... next quarter. Or the one after that. Or the one after that... just buy stock.

• Excluding certain items, Novellus posted a gross margin of 32.4 percent, in line with the company's outlook. But on a GAAP-basis, Novellus reported second quarter gross margins of just 26 percent -- matching its first quarter result.

For those not in the know GAAP is what accountants would use if we took this all seriously. Instead to inflate stock prices, we exclude many things that hurt profits and hence can claim stocks are much cheaper than they are. That's what happens when you can exclude so many charges as "pretend"... also part of the reason so much executive compensation is in stock options; in non GAAP they don't count. And almost all analysts now use non GAAP.

But that's a whole different entry - we went in depth on that subject here [Apr 24, 2009: Operating Earnings v As Reported Earnings]. Just be aware that as we talk up PE ratios almost all American companies are vastly understating their expenses (hence overstating profitability) as we use non GAAP figures, both by the companies and the analyst community. That's what you have to do when you have a bevy of flaccid companies throughout the dynamic, innovative economy. Have to justify those bonus and option payouts.

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Anyhow, bottom line - we're all happy here. NVLS and CSX are up - the all knowing market has spoken. Buy stocks, the recovery is here... the CEOs said that 3 months ago as well. They were wrong. But they mean it this time. Expect the same song and dance among another couple hundred companies in the weeks to come.

We can dance, we can dance ...



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