Consumer Spending Might Add Shine To Communication Services Earnings

With quarterly earnings season about to begin, the Communication Services sector is poised to be among the stand-outs in terms of revenue, according to third-party expectations.

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As earnings start to roll out for the Communication Services sector in coming weeks, investors might take some comfort in the upward surprise of stronger than expected U.S. March jobs growth.

What does jobs growth have to do with this complex sector that includes everything from telecommunications companies to video game makers to entertainment behemoths to social networking giants?

Solid job creation like we saw in March often helps reassure investors about consumer confidence. Considering the multitude of consumers who are in daily, almost nonstop, contact with a number of players in the Communication Services sector, a robust economy might be considered a good sign. In fact, Communication Services is projected by some analysts to lead all sectors in revenue growth for Q1, though earnings per share might be a different story.

If you need a reminder, the sector features some of the better-recognized telecom, entertainment, video game, and social media stocks, ranging from AT&T (T) to Walt Disney Co. (DIS), to Electronic Arts (EA) to Facebook (FB), and Netflix (NFLX). The sector was introduced just a few quarters ago and combines some companies once in Info Tech and Consumer Discretionary with some from the old Telecom sector.

Consumers arguably have a love-hate relationship with many of the social media companies that make their homes in Communication Services, according to a recent Wall Street Journal/NBC poll. But they still use them: Some 70% of those surveyed said they use FB, Twitter (TWTR) and Alphabet (GOOG, GOOGL) services every day despite trust and security issues, according to the poll.

Q1 Earnings Season

A number of downward revisions have trimmed FactSet’s projected year-over-year cumulative earnings Q1 Communication Services sector growth rate to negative 2.1%. If FactSet turns out right about an earnings decline, it would mark the first year-over-year drop in earnings for the sector since Q2 2016.

It’s a far different story on the revenue side, if FactSet’s projections turn out right. Communication Services is on track to record the highest year-over-year revenue growth of all 11 S&P 500 sectors at 13.1%, FactSet says.

That’s thanks in part to expected double-digit revenue growth for three of the four industries in the sector: Interactive Media & Services at 21%, Media at 13%, and Diversified Telecommunication Services at 10%, according to FactSet.

Research firm CFRA said strong consumer sentiment that’s brought solid demand for broadband and wireless services and content, as well as for applications provided by many of the sector’s companies, all could potentially underpin Q1 performance.

Figure 1: STRONG START: Communication Services stocks have been moving higher to start the year, but slightly trail the S&P 500 Index (purple line), as this year-to-date chart shows. Data source: S&P Dow Jones Indices. Chart source: The thinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results.

Where Consumers Spend

Earnings season might help tell the latest tale of Hollywood riches. DIS completed its $71.3 billion acquisition last month of major entertainment assets of 21st Century Fox (FOX) as it positions itself to compete against the rise in NFLX as well as T’s $81 billion purchase last summer of Time Warner and the celebrated Warner Bros. studios and HBO.

These billion-dollar plays are aimed at direct-to-consumer on-demand streaming services that can be played on any device, and increasingly, on phones. It’s an interesting juxtaposition for T too, as the once undisputed king of telephones now turns to phones as the vehicle for its second act as an entertainment giant.

The secular shift to on-demand entertainment is strong and some analysts think that even price hikes for the service—NFLX raised its prices again recently— won’t necessarily deter subscribers.

Walt Disney (DIS) also seems to be in high-gear with trying to claim its share of streaming market with its Disney+ service set to launch Nov. 12, including content from the Star Wars and Marvel lines. With the start of this service, which will reportedly have about 500 movies and thousands of episodes of television shows, DIS plans to pull its content from NFLX. Its price point, at $6.99 per month or $69.99 for a year, appears to aim to undercut NFLX.

After the announcement late last week by DIS, its shares jumped 10% while shares of NFLX took a 3% slide by midday Friday.

The stepped-up competition for what could be considered “share of eyes” also comes at time of rampant demand for content, and what the Wall Street Journal referred to as a “race for scale in Hollywood.” A hit movie or TV show is not enough to move the bar on streaming subscriptions, movie tickets, toys and theme-park admission.

Building these big studios via acquisitions also comes with a steep price for debt load. When T closed on the Time Warner buy, it was sitting on $180 billion in net debt.

On the streaming side, Verizon’s (VZ) rollout of 5G, kicking off the era of super-speed, could have an impact on nearly every corner of the communications sector. Though the rollout was largely symbolic—most consumers don’t have the Motorola phone for the clip-on modem that will upgrade the service, nor is the infrastructure build out completed—it offers potential for revenue growth for a number of companies in the communications sector. VZ, of course, is one, but so are NFLX, DIS and T.

Still, the building demand to guard privacy and security could present headwinds from additional self-regulation and/or government regulation. Facebook executives have been calling for a more active role for government and for regulators to update rules for the Internet.

Investors are likely to be listening for some insight into how these companies are dealing with additional security requirements, regulatory obstacles and any other extra costs, both internally and monetarily, that might impact margins going forward.

Upcoming Earnings Dates

Netflix (NFLX) said it will post its earnings after the close on Tuesday, April 16.

Verizon (VZ) has slated its earnings release before the open on Tuesday, April 23.

AT&T (T) said it has scheduled its earnings release before the open on Wednesday, April 24.

Facebook (FB) said it will release its earning after the close on Wednesday, April 24.

Walt Disney Co. (DIS) said it will report its earnings on Wednesday, May 8, after the close.

Good Trading,
JJ
@TDAJJKinahan

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