Published April 21, 2009

Profits not the bottom line for bleak Q1

Losses and profit hits are a given, so focus is on cash and balance sheets

By JOYCE HOOI

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(SINGAPORE) Profits for the first quarter of 2009 will be dismal - but analysts will not care.

'If a firm's cash level drops substantially, that will be more important than looking at the profit-and-loss statements, because it is very difficult to raise capital or borrow in current market conditions.' - Kenneth Ng, CIMB-GK Research's head of research

About 400 companies are expected to post their first-quarter profits by May 15. Since the start of April, 12 companies have issued profit warnings for the first quarter, nine of which were for losses and the other three for lower profits.

Given the combination of tight credit and torpid global demand, the prospects of net losses or lower net profits have already been factored into the market's expectations, according to analysts.

'The net profit item will be the least important thing this time around. The more perceptive analysts will not be looking at just net profit, because profits are expected to be bad anyway,' said Kenneth Ng, CIMB-GK Research's head of research.

Investors have had several quarters to get accustomed to bleak bottom lines.

In Q4 2008, total earnings posted by 229 companies plunged 87.3 per cent year-on-year to $1.51 billion. Of these, 88 companies posted a loss, according to a BT survey that excluded firms without comparative data from a year ago.

As good and bad companies alike are expected to post dismal Q1 results this year, analysts are turning to other items on financial statements to separate the wheat from the chaff.

Coming under particular scrutiny this earnings season will be the balance sheet, as analysts try to determine which firms will be able to pay their bills.

'We will be looking for signs of balance sheet deterioration,' said Mr Ng. 'For manufacturing firms, this could be in the form of higher receivables against lower sales - a leading indicator of defaults.

'For banks, we will be looking for signs of loans on their books that might become non-performing loans.'

For Westcomb Securities' head of research, Goh Mou Lih, cash will rule the balance sheet in this credit- scarce environment.

'If a firm's cash level drops substantially, that will be more important than looking at the profit- and-loss statements, because it is very difficult to raise capital or borrow in current market conditions,' he said.

'If cash cannot cover operations for at least the next 3-6 months, there will be something to worry about.'

As far as meeting financial obligations is concerned, analysts will have plenty to worry about if auditors' reports are anything to go by.

Since the beginning of March, 43 firms have been flagged by auditors over significant doubts about their ability to repay their borrowings as and when they fall due over the next 12 months.

The fine print of borrowings will consequently be examined with a warier eye by analysts like Anni Kum. The Kim Eng Research investment analyst will be looking out for clauses in hybrid debt-equity instruments like convertible bonds which bring with them the risk of early redemption.

Apart from the balance sheet, analysts will be probing the quality of the earnings, meagre as they are expected to be.

'The quality of those earnings is a good gauge of whether or to what extent a firm has been affected by the harsher operating environment,' said Ms Kum.

'For example, an increase in receivable days may be a sign that the earnings are coming at the expense of looser credit terms offered to customers. This may ultimately result in an increased need for working capital or put the firm at higher risk of receivables impairments.'

With Q1 a foregone conclusion for most people, investors will be looking forward instead.

'There will be a focus on a company's outlook statement. People want a sense of what management thinks about the coming quarters,' said Derek Tan, an analyst with DBS Vickers Securities.