5 Stocks To Be Careful With Going Into Earnings

Includes: AAPL, FB, ISRG, NFLX, PM
by: Bill Maurer

As earnings season is about to hit us full force, investors need to be prepared. As part of my earnings coverage each quarter, I always do an article about stocks to be careful with going into earnings. There is one important point, or disclaimer, I must make. Just because I say be careful with a stock going into earnings, doesn't necessarily mean that longs (and shorts potentially as well) should exit their positions before earnings. It simply means that there are certain items you need to think about before deciding on what position to hold (or not) through the report, or even leading up to it. The five names I've chosen to discuss this quarter are Apple (NASDAQ:AAPL), Facebook (NASDAQ:FB), Intuitive Surgical (NASDAQ:ISRG), Netflix (NASDAQ:NFLX), and Philip Morris (NYSE:PM). In each name's section, I'll discuss why each name made the list, and what investors need to watch for leading up to and into their respective reports.


Apple makes the list for a couple of reasons. First, it is the biggest name in the US by market cap. That means that Apple has the largest influence over both the NASDAQ and S&P 500 indices. Apple's report also reaches to many other names, as many Apple suppliers and competitors will also trade off of Apple's report. The second reason Apple makes the list is that this quarter, unlike many we've seen in the recent past, Apple analysts are actually raising their estimates into Apple's quarter. Apple analysts have been known to panic in recent quarters, taking down Apple's estimates for both the quarter they are reporting, as well as the quarter they will be giving guidance for. Those that follow my coverage of Apple know that I've covered the continuous movement of Apple's earnings estimates extensively over the past 18 months. There's even been a quarter or two where some late estimate changes helped Apple to beat some of its estimates.

The other interesting item this time around will be how much Apple's blowout iPhone weekend leads into the new fiscal year. There have been questions to how many iPhones Apple actually sold during the weekend, and how much of Apple's huge sales number was due to channel filling. Thanks to Apple raising its guidance to the high end of its original range, the company will need to prove it sold a large number of phones. Remember, Apple has a tough comparison against last year's fiscal Q4 for the following four reasons:

  • This year's launch is up against the launch of the iPhone 5.
  • The iPhone 5S has been rumored to have serious supply issues.
  • There was no iPad refresh which could lead to an iPad revenue decline in the billions.
  • How weak is the PC space? Even though Apple's Mac line is not doing as bad as some other PC makers, it still could show an year-over-year decline.

The good news is that the iPhone went on sale in China this year at the same time, instead of the multi-month lag we've seen in the past. Also, iTunes and other Apple revenues should show a decent amount of growth. Will it be enough to help Apple meet estimates? Current estimates call for more than 2% revenue growth, almost $800 million, and I think the average estimate will continue to rise into earnings.

Apple also has many other questions to answer this time around. Can the iPhone 5C help stop the decline in gross margins? Will part of the new iPad line launch be delayed into next year? How much stock did Apple buy back in the quarter, and are they seriously considering Icahn's push for a $150 billion buyback? Does the company have any other new products or services lined up for the holiday season? With Apple shares hanging around the $500 level recently, the answers to these key questions will help decide whether Apple's next move is to $400 or $600.


Facebook makes this list purely on a valuation call, since the stock has risen 92.5% since reporting its second quarter results. While the results were a clear blowout, the rally in this stock has been amazing, and it hasn't been due to short covering. Facebook's rally has been so great that the company's market cap is now higher than that of Cisco Systems (NASDAQ:CSCO) and more than 9% higher than Intel's (NASDAQ:INTC). Those are two companies that have more than $50 billion in annual revenues, and billions of profits each year. Facebook may crack the $10 billion revenue mark next year, and right now, that isn't even expected.

With Facebook having very little GAAP earnings, it's hard to really discuss the name on a P/E basis. So if we look on a price-to-sales basis, Facebook currently trades at almost 13 times currently expected sales for 2014. How does that compare? Well, Google (NASDAQ:GOOG) trades for a little more than 4 times expected 2014 sales. For Facebook to hit the current P/S valuation that Google has, Facebook would need revenues of nearly $30 billion. That's about 3 times what analysts expect for 2014, meaning it is several years off. Don't forget, Google trades at a substantial premium itself, so if you make the comparison to a name like Apple, it is even more stark.

Facebook has a great growth story, and I don't mean to slight them in the least. But there comes a time when the valuation gets too stretched, and we might be there now. The other interesting item is that Facebook's IPO marked a short-term peak in the social media space. Now that Twitter (NYSE:TWTR) is about to go public, could that mark the next high for these names? Facebook reports on October 30th, and it will be a very interesting report. With the great rally since the Q2 report, this could easily be a "buy the rumor, sell the news" event. Facebook is priced for perfection, and they will need to deliver a number above and beyond expectations. Expectations currently stand at $1.9 billion in revenues (50% growth) and non-GAAP earnings per share are forecast to rise from $0.12 to $0.18.

Intuitive Surgical:

The medical device maker known most for its da Vinci surgical robot systems has been one of the most disappointing names so far this year. This company had been one of the best growth stories in recent years, but a number of concerns over the safety of its products has put shares just a few dollars off the 52-week low. For a company that was known for huge revenue and earnings blowouts, last quarter's earnings warning was a wake up call to many investors. This company has a lot of questions to answer, which is why it is a name to most likely avoid, or at least tread very carefully with into earnings. If they were to warn again, it would most likely be this week.

Intuitive shares dipped again recently after Citron came out with another negative piece. Citron thinks that the company's growth could stop entirely for the foreseeable future, and noted a large number of injury or death reports in August. Citron believes that a lot of litigation disclosures could be found in the upcoming 10-Q. The firm now sets a price target of $200 on Intuitive, which would be well below the $364 current price and $585 yearly high.

Citron has been right on Intuitive recently. Intuitive's growth has stalled out, with revenues expected to decline in Q3 and Q4, and the company has a number of legal challenges potentially coming. Intuitive used to be one of my favorite names, but right now investors should probably look elsewhere. There's just too much risk here right now.


Netflix is another one that has rallied greatly since its last quarterly report. At that time, most were saying that the stock was overvalued and the report needed to be perfect. Q3 guidance wasn't great, and although the stock declined right after earnings, it has rallied tremendously to new highs since. Netflix will have to prove itself again this time around. The company needs to prove the following:

  • Original programming is bringing in subscribers.
  • The company can continue to improve streaming margins.
  • The launch into The Netherlands is off to a good start.
  • The balance sheet is not in terrible shape.

But there's another reason to be cautious on Netflix right now. Carl Icahn might be at a point where he takes profits. The billionaire investor says that it's no longer a no brainer to sit on a mountain of profits, and that should worry investors. If Icahn sells, I think the stock will lose 10%-15% overnight. Not only does Netflix have to prove to the overall market that it deserves its current price, but it has to keep Icahn in the game as well. They don't want a repeat of 2011.

Philip Morris:

The cigarette giant needs to step it up this quarter after a few disappointing earnings reports over the past year. It would be nice for the company to not take down its yearly earnings forecast at each report, even if it is only because of currency impacts. In Q2, it was more than just currencies however, as shipment volumes were also light. The company had very poor cash flow in the first quarter, although most of it was due to a tax issue that should resolve itself.

Philip Morris may be a value investor's dream thanks to its 4.3% dividend yield and $6 billion a year in buybacks, although that has forced them to take on a bit of debt. If the company can improve its cash flow, then the gap between their free cash flow and capital returns should get smaller. Philip Morris does trade at a premium to others in this space, but that premium has come down. The stock has too, as Philip Morris is the worst performing cigarette name (of the 4 I heavily follow) over the past year. Philip Morris could change that with a decent earnings report this time around. I can't remember the last time I saw analysts raising their estimates on the cigarette giant, so it would be nice for that to occur once in a while.

Final thoughts:

All five of these names have something to prove this quarter. While that doesn't mean you can't own them into and through their earnings reports, you should tread carefully in certain respects. With Apple, I would get fearful if analysts raise their estimates too much, because we usually see the opposite happen. Facebook has nearly doubled since its last earnings report, meaning the stock is price for perfection and more than a simple earnings beat. Intuitive Surgical has a growth problem at the moment, and some safety concerns regarding its products put this name on the avoid list for now. Netflix has also rallied to new highs, meaning they will have something to prove, especially if they want to keep Carl Icahn as a shareholder. Philip Morris has been a laggard in its space recently on some weak quarterly reports, so it would be nice if the cigarette giant could turn things around with a solid Q3 report.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Investors are always reminded that before making any investment, you should do your own proper due diligence on any name directly or indirectly mentioned in this article. Investors should also consider seeking advice from a broker or financial adviser before making any investment decisions. Any material in this article should be considered general information, and not relied on as a formal investment recommendation.