As we continue to head through earnings season, the Canadian banks reporting earnings signal an end. In this weeks email we will continue to highlight featured companies and their earnings reports.
Of note, we will have some commentary on banks in this e-mail. However, they will be brief, as next week we will release a quarterly favorite, our bank recap earnings newsletter, jam packed with details and highlights on all 6 of Canada’s major institutions.
The relatively weak earnings (more next week) from the banks, along with non-essential spending slowing at Foundational Stock Costco (more on that below) could be a sign we are starting to see the impact from rising rates hit the North American consumer.
Without further ado, let’s dig right into it.
Foundational Stock Earnings
Royal Bank of Canada
Royal Bank reported a mixed second quarter. Revenue of $13.52B beat analyst estimates of $13.3B and adjusted earnings per share of $2.65 missed expectations of $2.80. This represents a 10.4% decline in revenue and a 13% decline in earnings per share.
Considering the economic environment, this is not that surprising and we did expect to see the banks take a step back this quarter. It’s highly likely we continue to see shrinking earnings and revenue throughout 2023 on a year over year basis as it will be hard for banks to keep up with 2022 numbers.
It is witnessing declines across virtually all of its business segments, and highlights the fact that equity trading declined in a significant way compared to last quarter, resulting in a 23% dip in net income.
Total Provisions for Credit Losses on the quarter sat at $600M, which was around $25M higher than expectations. The company states that this increase in PCL’s is:
“largely driven by unfavourable changes in our credit quality and macroeconomic outlook”
The company’s CET 1 ratio sits at 13.7%, well ahead of regulatory requirements and as more Canadian banks report earnings, this 13.7% is looking like it is going to be an industry best.
Like mentioned at the start of this e-mail, we will go into much further detail on all 6 of Canada’s banks next week. However, in short, it was a rough but expected quarter for all of them except National, which is yet to report.
Costco (COST)
Costco reported mixed second-quarter Fiscal 2023 results in which it topped earnings expectations but missed revenue. Diluted earnings per share of $3.43 beat by $0.12 while revenue of $53.65B (+2.0% Y/Y) missed by $930M.
The miss was largely due to lower-than-expected adjusted sales in the United States. E-Commerce dropped by 9% on a YoY basis – but that is to be expected considering we are still dealing with pandemic comparables in which we saw abnormal levels of e-commerce activity in early 2022.
Membership revenue continued to be a source of consistent growth, jumping to $1.04B (vs $1.04B consensus) from $984M a year ago. Last quarter, we indicated that Costco hadn’t raised membership prices since 2017, and there was a possibility that a raise was around the corner. When pressed on the company’s quarterly call, they didn’t seem overly in a rush to raise prices and believed that in light of higher prices everywhere, they are doing right by their members by keeping it steady.
All in all, there is certainly some pressure in terms of consumer spending. Big ticket discretionary items like furniture and electronics were down 17% YoY – fitting the narrative that consumers are starting to pull back on discretionary purchases in light of the current economics. This was the main reason the U.S. segment struggled – foot traffic was still pretty strong, but fewer non-food items led to lower average tickets.
Constellation Software (TSE:CSU)
It was another decent quarter for Constellation Software. Earnings of US$4.44 (-4.1%) missed estimates for CAD$18.34, and revenue of US$1.919B (+34%) vs CAD$2.541B represented a slight beat when converting USD back to CAD.
While it may seem like a big deal, the company’s performance against quarterly estimates is always all over the map. It also posted strong operational cash flow growth (+27%) year-over-year (YoY).
Constant currency organic growth (which strips out acquisitions) came in at 5% YoY and topped estimates for 3% growth, the highest level since Q4 of Fiscal 2021. Conversely, adjusted EBITDA of $461M came in below expectations for $484M.
The company did book some fees in relation to the Lumine spin-out. Still, even stripping that out, the company’s EBITDA margin of 24% is the lowest it has seen in some time. Factors impacting margins included lower than expected contribution from the Altera acquisition, the higher pace of acquisitions which usually results in higher upfront costs and the timing of wage inflation which has come in before the price increase. These margins should normalize higher as the year progresses.
In the quarter, CSU deployed $718M in capital for acquisitions – which is the second largest in company history. This also doesn’t include two deals worth $100M+ that had yet to close in the quarter.
All in all, despite lower margins, the company posted an excellent quarter.
Pfizer (PFE)
It was a strong Q1 for Pfizer which beat on the top and bottom lines. Earnings of $1.23 (-24%) per share beat by $0.24, and revenue of $18.3B (-28.8% Y/Y) beat by $1.81B. While earnings did dip YoY, it is important to note that it is mainly due to the inflated sales/earnings from COVID-19-related products Cominarty and Paxlovid. Stripping out these products, the company generated 5% revenue growth. It also re-iterated full-year 2023 guidance in which it expects the following:
- Revenue of $67.0 to $71.0 Billion vs. $74.23B consensus
- Adjusted Diluted EPS of $3.25 to $3.45 vs $4.38 consensus
Also worth noting, the company is prepping for a big second half as it expects most of its “unprecedented number of new product and indication launches” to occur later this year. As a result, it expects most of its growth (reflected in guidance) to also come in the second half.
This is also outside the Seagen acquisition it announced earlier this year, which it expects to close in late 2023 or early 2024. The company also reiterated that while debt loads will increase post-Seagen acquisition, the company has a deleveraging plan that will enable “flexibility for future dividend increases and share repurchase activity.”
Bull List Earnings
Automotive Properties REIT (TSE:APR.UN)
APR reported decent Q1 results. Revenue of $22.876M (+12%) beat expectations for $22.3M, and Net Operating Income came in at $18.85M (+112%). Funds From Operations (+0.7%) and Adjusted FFO (+0.4%) inched upwards year-over-year, which resulted in a minor 40 basis point improvement in payout ratios.
It is important to understand that while this is a growth REIT, it is still structured as a REIT and, as a result, has to return the majority of its profits back to shareholders via a distribution. So, you are unlikely to see high growth rates as you’d see in a growth stock.
As expected, debt-to-gross book value increased to 45.2% (+5.2% from last quarter) as the company closed the Quebec dealership acquisition. That said, the company’s interest coverage ratio remains strong at 2.5x. Worth noting that the company continues to stabilize exposure to interest rates, and as of the end of Q1, 94% of the company’s debt is fixed.
Rental revenue increased by 12.9% on the year thanks to recent acquisitions and contractual annual rent increases. As we are seeing across many REITS, it did take a $3M fair value charge on its properties.
Management reiterated that plenty of acquisition opportunities exist in this fragmented market. Speaking of which, on the day of earnings, APR announced deals to acquire Groupe Park Avenue Volvo and Jaguar Land Rover dealership property in Greater Montreal.
While the company provided some commentary on its outlook, there wasn’t anything new that stood out. Interest rates continue to be the major headwind from a customer perspective and on a debt basis. However, this is a strong REIT, one we feel provides an attractive growth profile and healthy distribution of 7%+
You can view our full report of Automotive Properties here.
Bank of Montreal (TSE:BMO)
The Bank of Montreal reported mixed second quarter earnings. Although revenue of $8.44B came in $180M higher than expected, earnings per share of $2.93 missed expectations by $0.30.
The company’s CET1 ratio came in at 12.2%, and although this is down materially from the 18.2% it reported last year, this was expected as the company’s acquisition of Bank of the West was being completed. If you remember, BMO had to issue shares last year in anticipation of their CET1 ratio dropping below regulatory requirements after the acquisition closed. So, the 18% was artificially high.
Adjusted provisions for credit losses came in at $318M, which is a material increase from the $50M it reported a year ago today. This is not unique to BMO, practically every major institution here in Canada has raised their PCL’s materially. The company states that it is likely to see PCLs remain elevated for the remainder of 2023.
The company’s adjusted return on equity dipped to 12.6% from 15.7% and it witnessed a decline in net income across practically every one of its segments outside of its US operations. Overall, it was a relatively rough quarter outside of the headline beat on revenue.
