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Earnings Outlook: Results Likely to Top Weak Forecasts for Quarter

As earnings season got underway this past week with better-than-expected quarterly results from Alcoa, analysts said many other companies could also exceed their sharply lowered forecasts.

As the first Dow stock to report last week, the aluminum company said first-quarter profit rose 9%. Wall Street looks at results from the Dow component to not only gauge the pace of earnings for the quarter but as a proxy for the health of the overall economy.

“It should be an interesting quarter,” said Alec Young, an equity market strategist at Standard & Poor’s. “Even though the estimates are a lot lower for the first quarter of ’07…that’s after a long streak of double-digit percentage gains for corporate earnings. It wouldn’t be surprising to see companies come in and beat the lowered expectations.”

Dow component General Electric Co also reported this past week. It reported a 2% increase in profits, in line with analysts expectations.

Single digit profit growth is expected to be the norm this quarter. Thomson Financial predicts the companies in the Standard & Poor’s 500 Index, on average, will post only a 3.3% gain in profit for the first quarter of 2007, and just 4% for the second.

Full-year profit is likely to be up just 6.3%, the worst showing since 2002. And that full-year forecast hinges on a stellar showing by the group in the fourth quarter, when profit growth is estimated to return once again to the double-digit pace.

Expectations are still running high for sectors such as technology and consumer staples. Also, companies have been working hard to keep expectations low and may wind up trouncing these modest expectations.

Comparisons a Factor

In addition, several market strategists point out that the current forecasts look weak when compared with strong year-earlier results.

“Trees don’t grow in the sky,” said Art Hogan, chief market strategist at Jefferies & Co. At the end of the day, “we could have a very normal year,” he said.

The average profit forecasts are also dragged down by poor performances at a handful of companies, particularly automakers and homebuilders.

If you take out first-quarter earnings estimates for Ford Motor   and homebuilders such as D.R. Horton and Toll Brothers , S&P earnings would be up 4.9% instead of 3.8% for the period, according to Thomson.

Another important swing factor will be the price of oil, said James Paulsen, chief investment strategist at Wells Capital Management. “Most people are writing it off as flat, but I think that could be a wildcard,” Paulsen said.

During the quarter, oil prices were particularly volatile. The quarter opened with oil prices pulling back sharply. However, by the end of the quarter, renewed tensions in the Persian Gulf drove prices back up to a fresh six-month high near $66 a barrel.

How this will affect energy companies will depend on a variety of factors, including their hedging strategies. Overall, however, first-quarter earnings for energy companies are expected to decline 2%, Thomson Financial said. However, this isn’t as dismal as it may appear at first glance, energy earnings were up 36% in the first quarter of 2006.

One company affected by weaker oil prices is ConocoPhillips ,  the third largest U.S. oil company behind Exxon Mobil and Chevron. Last week,ConocoPhillips said its first-quarter results were hurt by lower crude oil prices and production compared with the fourth-quarter. However, it realized higher prices for natural gas and higher refinery margins. The Houston company didn’t provide a forecast for its per-share earnings.

Surprises in Financials

The financial sector also could provide a number of surprises. Investors have been focused on the potential fallout from weakness in the housing market and rising rates of delinquencies in the subprime loan segment. However, outside of these issues it has been a “pretty good environment,” Paulsen said. He cited the large volume of investment banking deals, the increase in the stock market, and a “benign” bond market as factors supporting his opinion.

Earnings growth in both technology and consumer staples companies is expected to remain in the double-digits. But as shown by the likes of Motorola and Oracle, the results will be mixed.

Motorola cut its first-quarter outlook, but Oracle is expected to outpace estimates for its fiscal third quarter, which ended Feb. 28.

In addition, expectations for the tech sector have moderated significantly.

“They’re coming down, and they’re coming down fast,” said Howard Silverblatt, a senior index analyst at Standard & Poor’s. He said, analysts had expected the tech sector to post a 14% increase in first-quarter profit, but that opinion has been tempered to about 10%.

Consumer Staples Strong

Like the tech sector, the consumer staples group is benefiting from weaker results in 2006. Thomson expects first-quarter earnings to be up 10% during the quarter.

Within the consumer staples group, some of the strength will come from the makers of household products. Kimberly-Clark, Procter & Gamble and Colgate-Palmolive all have a chance of topping the average Wall Street estimates, according to Lehman Brothers analyst Lauren Lieberman.

Kimberly-Clark recently said it expected its first-quarter earnings to be at or slightly above the high-end of its forecasts helped by strong sales of its Huggies brand in North America.

Looking out over the next 12 to 18 month, Lieberman is optimistic about trends in the group.

“While we have seen a recent spike in crude-oil costs, the commodity cost environment has improved significantly year-over-year for the most part,” she said in a recent research note. As these costs continue to ease, the group should gain significant operating leverage.