Sunday, April 28, 2013

Dow Industrial Corps 1Q 2013 GAAP Pretax Income Down 5.5%, But EPS Up 4.1%.....US Congress Responds By Fleeing DC

There are 30 Dow Industrial Corps.  Three of them (Pfizer, Merck and Walt Disney) haven't released their 1Q 2013 earnings yet.

Two Dow companies (Bank of America and JPMorgan Chase) have many huge unusual items included in their GAAP earnings, including huge Debit Valuation Loss Adjustments, Fair Value Adjustments on Structured Liabilities, and many other huge gains and losses.  Since these huge unusual items make these two companies' GAAP Pretax Income and GAAP Income Tax Expense both not very meaningful, they are excluded below.

In addition, another Dow Company Verizon has a very unusual situation.  Its extremely profitable Wireless segment is 45% owned by Vodafone.  On the other hand, its somewhat troubled Wireline operation is 100% owned by Verizon.  The end result is that both its Pretax Income and Net Income include 100% of both its Wireless and Wireline segments.  On the other hand, its Earnings Per Share (EPS) computation only includes the earnings of 55% of its extremely profitable Wireless segment.  In the 1Q 2013, only 40% of Verizon's combined earnings were included in its EPS computation.  Thus, it's easy to see why Verizon is now trying to acquire Vodafone's 45% ownership interest in Verizon Wireless.  Anyway, because of this lack of comparability between increases in Combined Earnings and EPS Earnings, I have also excluded Verizon below.

Thus, I am left with 24 Dow Industrial Corps which have released their calendar 1Q 2013 earnings.  These 24 Corps are the best of companies in so many different sectors, and thus should give a very good indication of just how the US economy is doing.  And the EPS performance measures should show how the stockholders of these 24 Dow Companies are doing.

The Total Generally Accepted Accounting Principles (GAAP) Pretax Income of these 24 Dow Industrial Companies decreased 5.5% from the 1Q 2012.  What that tells you is that the true operating results of these companies really tanked, in the aggregate, in the 1Q 2013.  And because these operating results tanked, it explains why the US economy is suffering so much.  And the question it raises is just how many US employees will be laid off by these 24 Dow Industrial companies.

On the other hand, the stockholders and the executives of these 24 Dow Industrial companies, in the aggregate, have to feel substantially better than the general US population since the Total EPS of these 24 Dow Industrial companies increased by 4.1% in the 1Q 2013 as compared with the 1Q 2012.

So, what in the world is with the massive 9.6% positive earnings spread between the 5.5% Pretax Income decline and the 4.1% EPS increase?

Well, it's all financial engineering.

First, the income tax rates on a book basis of these 24 Dow Industrial companies dropped dramatically from 31.9% of Pretax Income in the 1Q 2012 to 27.0% in the 1Q 2013, resulting in the 5.5% Pretax Income decline converting to a 1.3% After-tax Net Income increase.....yeah, that's an incredible 6.8% magical profit uptick.

And second, many of these Dow companies have huge common stock buyback strategies.  What this does is to make the EPS growth much more robust that the After-tax Net Income growth.  For these 24 Dow Industrial companies, the total EPS growth of 4.1% exceeded the total After-tax Net Income growth of 1.3%.  Thus, the total EPS growth increased by 2.8% just by the common stock buyback strategy.

Neither of these financial engineering strategies (i.e. lowering the income tax rate and buying back common stock) do anything for the overall US economy and US job creation.  What they both do is to expand further the already huge economic gap between the wealthy and everyone else.  These two financial engineering strategies enhance the predominant stock-based total compensation value of the companies' top executives as well as benefiting all stockholders.  Higher EPS and higher EPS growth drive higher stock prices.

The US Congress has clearly caused the effective income tax rate reduction financial engineering.  So that one is on them.  And they have shown for many, many years that they don't have the courage to change this horrible situation, clearly knuckling under to the demands of their Big Corporation lords.

And how has the US Congress recently dealt with the substantial US economic problem the country still has as is shown by the horrible 1Q 2013 Pretax earnings that have just come out?  Well, just like they have dealt with the horrible immediate across-the-board huge Sequester cuts.  Instead of facing and dealing with these two massive problems head on, the US Congress instead nearly all fled Washington DC, leaving a substantial part of the country to continue to suffer economically.

The Fed is a major cause of the excessive common stock buyback strategy financial engineering because of the extremely low interest rate environment it has provided, which makes these common stock buybacks extremely lucrative to large Corporations.

I think Fed Chairman Ben Bernanke did a fabulous job in the two years after the disastrous 2008 financial meltdown.  However, since then, it appears that he has resorted almost solely to his philosophy of trickle down in setting Fed policy.  For instance, he must think that by corporations buying back their own common stock excessively, that this would provide a trickle down benefit to the entire country, and frankly it hasn't happened.  And he also must think that by just providing extremely low interest rates which would clearly benefit directly not just Big Financial Institutions but also nearly all large Corporations, that that would trickle down and benefit all US citizens, and that clearly also has not happened.

That's why I think it would be wise to have someone new at US Fed Chair next year.  The US Fed needs to set economic policies that benefit the entire country, not just the large Corporations and the wealthy.

I think that someone like Janet Yellen as the new Fed Chair would be a very good change for the entire country.  She would make sure that the Fed policy isn't trickle down.  I think she would set economic policy that would directly benefit all US citizens.

I also think that she wouldn't be such an inflation hawk as is Ben Bernanke.  Frankly, I think when the US economy continues to suffer so much and for such a long time, especially as it relates to the middle and lower classes, that some inflation would be good.  Under such a depressed US economy, it is much better to error on the side of overstimulation of the US economy rather than understimulation.

Anyway, below here are the percentage changes in Pretax Income, in After-tax Net Income, and in EPS for the 1Q 2013 as compared with the 1Q 2012 of these 24 Dow Industrial companies:

1Q 2013 1Q 2013


Pretax Net GAAP
1Q 2012

Income Income EPS
NI to

% % %

Increase Increase Increase

(Decrease) (Decrease) (Decrease)
mils $s

ExxonMobil -8.4% -0.4% 6.0%
Chevron -14.8% -4.0% -2.8%
Walmart 3.2% 8.1% 10.6%
Microsoft 19.5% 18.5% 20.0%
Johnson & Johnson -15.5% -10.6% -13.5%
AT&T -3.4% 3.3% 11.7%
General Electric 4.9% 10.7% 16.7%
IBM -6.0% -1.1% 3.4%
Intel -35.9% -25.3% -24.5%
Procter & Gamble 3.2% 6.5% 8.6%
Cisco Systems 1.1% 44.0% 47.5%
Coca Cola -14.0% -14.4% -13.3%
Caterpillar -51.0% -45.2% -44.7%
Hewlett-Packard -13.6% -16.1% -13.7%
Dupont -1.5% -1.6% 0.7%
United Health Group -9.6% -10.7% -11.5%
McDonald's -1.7% 0.2% 2.4%
American Express 7.7% 1.9% 7.5%
United Technologies 11.7% 7.0% 6.1%
3M 0.9% 0.5% 1.3%
Boeing -1.7% 19.7% 18.0%
Travelers 13.3% 11.2% 15.3%
Home Depot 34.7% 31.9% 36.0%
Alcoa 69.6% 71.7% 44.4%

Total all 24 -5.5% 1.3% 4.1%

Excess of EPS % Increase Over Pretax Income % Decrease 9.6%

…..Due to Lower Income Tax Rates 6.8%

…..Due to Common Stock Buybacks 2.8%