INVESTMENT

The way forward: Insights into economic recovery


As the effects of the global epidemic continue, business owners and investors alike are scrambling to assess the economic downturn and plan for an uncertain future.

Despite the push into the global economy, equity prices have maintained their ward upward trajectory. What is the explanation for this disconnection? To gain insight into these and other questions, the BDO Assessment and Business Analysis (VBA) team puts real data behind the narrative and launches a new quarterly study that examines how industry and analyst estimates are evolving into the Kovid-1 pandemic epidemic.

In the inaugural issue of June 2020, “The Path Ahead, Analysis Analysis Insights for Insights on the Economic Recovery”, Video Team 2 looked at the estimates of more than 20,000 equity analysts for 828 public companies across 2 industries. Using data algorithms and dashboard analysis, the estimates were synthesized by sector.

Although the short-term Covid-1 impact effects are well appreciated, their opinions differ in their duration and shape of the final recovery. Many expect a U-shaped swarm. Given the rising equity prices, this may be understandable. But the overall data suggests a further and longer decline in earnings and profits.

The analysis revealed sharp differences in the field between near-term effects and recovery time and depth. While the expected decline in revenue and profits for a particular industry is not surprising, analysts estimate that their scope and long-term effects are fatal. The following tables, based on data from S&P Global’s Capital IQ Database, show both projected revenue and EBIT sector changes both near and long-term.


Photo courtesy BDO USA, LLP
Photo courtesy BDO USA, LLP
Photo courtesy BDO USA, LLP

Despite the almost universal collapse on the forecast fundamentals, equity markets have moved in a different direction. The chart below illustrates the change in Total Enterprise Value (TEV) for each industry from 31 January 2020 to 31 May 2020 using the market capitalization of the banking sector.


Photo courtesy BDO USA, LLP

What was the correlation between market equity price and Covid-1 analy next analyst correction? Using analyst estimates and changes in market prices, the team explored it first on a relative basis for each industry and then based on movements in April and May. The results show a wide range of differences between basic and market prices on a full basis.

Relative market performance

In the study, the team analyzed the correlation on a relative basis for each industry by plotting their relative TEV change against the relative change of both the 2020 EBIT and the long-term EBIT. The plots at the top of the line represent industries where TEV performance was better than the relative decline in the corresponding EBIT: market value will be better than in other sectors, analysts predict.

On the other hand, the plots below the line point to industries where TEV performance was worse than the relative decline in the corresponding EBIT. Market prices have been worse than analysts expected. TEV performance was consistent with the relative movement of the corresponding EBIT near the trend line or in the plots. In relation to other industries, the market price is performed as expected based on the change in estimates.


Photo courtesy BDO USA, LLP
Photo courtesy BDO USA, LLP

For many industries, both short-term and long-term estimates are consistent and strongly related to TV performance. Other sectors, however, exhibited significant variations in estimates and market prices.

Relative market underperformer

The airline industry represents the biggest negative exterior. Market prices have declined as long-term EBIT estimates remain stable. Although 2020 will be a difficult year for the sector, estimates for the Covid-1 post-next estima May 1 show a recovery in V-shaped earnings.

Airlines have been hit in the short term, but the long-term effects of the epidemic are not expected to be as severe as in other sectors. Yet the airline’s relative TEV performance is consistent with changes to the 2020 EBIT estimate. This indicates that investors are more focused in the near-term. As shown below, revenue estimates by 2023 are low. So due to the expected recovery EBIT margin expansion in EBIT: From 31st January to 31st May, the expected EBIT margin between 2023 has increased by 2.4%.

Photo courtesy BDO USA, LLP
Photo courtesy BDO USA, LLP
Photo courtesy BDO USA, LLP

The “Trend Analysis” graphs include total EBIT estimates for sector companies at the end of each month from 31 January to 31 May. Estimates are extended for each future period where meaningful information is available. The total estimate for each year (and at each time period) is the actual total size of the 2019 results. For example, the 110% estimate for 2020 indicates 10% expected industrial growth, while the 90% estimate indicates 10% expected decline. These graphs show a one-time extinction of the movement in the estimation and indicate how both the short-term impact and the path to recovery have changed since the onset of the economic crisis.


Insurance stands as another market underperformer. The reduction in the relatively small long-term EBIT estimate refers to significantly better relative TEV performance. Overall, the following graphs indicate that industry estimates have declined, although the EBIT trend was revived from March 31 to April 30. The question is why and how can firms in the sector be different?

By April 2020, earnings estimates for property and casualty insurance companies, such as Allstate and Progressive, were revised higher, probably in anticipation of a longer U.S. lockdown. The fewer miles a policyholder drives, the less claims they make.

Photo courtesy BDO USA, LLP
Photo courtesy BDO USA, LLP

Relative market overperformer

Compared to estimates of earnings in other sectors, the market value of retail-luxury and luxury did not decrease as much. The effect described in the following graphs is driven by the expected break in demand and the parallel change in the revenue curve from the pre-covid-1 estima estimate.

Long-term declines in margins are forecast with revenue declines. Long-term EBIT estimates show a prolonged decline. Despite some of the most serious declines in the near and long term EBIT estimates, market value has performed relatively well.

Photo courtesy BDO USA, LLP
Photo courtesy BDO USA, LLP

The online retail and medical devices sector has outperformed expectations based on the downward revision of the Pre-to-Covid-1 2020 2020 EBIT estimates, but their market performance is consistent with the long-term EBIT estimates. Investors are looking at a near-term decline in profitability and focusing on the long-term prospects of the sectors.

Photo courtesy BDO USA, LLP
Photo courtesy BDO USA, LLP

Absolute market performance

Analysts share prices often go in the opposite direction as analysts’ estimates continue to decline from March 1 to May 1. The following table shows the percentage decline in 2020 and the percentage change in the long-term EBIT from March 1 to May 1 and the total enterprise value over the same period.


Photo courtesy BDO USA, LLP

The way forward

Despite the seemingly isolated, May trends suggest that a rapid decline in forecasts could go down. Although almost all industries have lowered their forward estimates in March and April, in May, the trend seems to be slowing and even reversing in some cases. For example, there was a slight change in both near-term and long-term revenue and EBIT estimates from April0 to May1 in the 2 near industries. Estimates in all four industries have even recovered somewhat over the same period.

The level and rate of downward revision in May gives some hope that Covid-1 considerations have been fully incorporated into forward estimates.

In BDO’s next quarterly study, the data will be analyzed by August 311 and the BDO team will investigate whether the analyst’s estimates match the market price, or whether the fundamental and market price will remain isolated.

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All posts are the author’s opinion. As such, they should not be construed as investment advice, or the opinions expressed must not reflect the views of the CFA Institute or the author’s employer.

Photo Credit: © Getty Images / Alloy-CM

Kevin Prall, CFA

Kevin Prall, CFA, is a Managing Director at BDO USA, where he has led the development and implementation of technology-enabled solutions for BDO evaluation and business analysis practice. Its specialties include business enterprise valuation, indomitable asset valuation and financial reporting, tax and transaction assistance forecasting. Pral is currently serving as the Director of Business Valuation Standards at the International Valuation Standards Council (IVSC). In her role at IVSC, she has worked with global leaders in the valuation industry, securities regulators and accounting standards setters to advance the interests of investors and the capital market. Along with IVSC, Prol has written two related articles on ESG: “ESG and Business Assessment” and “A Structure for ESG Standards.”



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