Wizard Accounting

Don’t Be Fooled By Strong Midyear Earnings On DAX

Funny how wizard accountants can work the numbers.
  • Why it matters

    Why it matters

    As sales slow, efficiency gains from restructuring and austerity programs are running low. Now German corporations need to invest heavily again – whether in developing new products, building factories or acquiring other companies.

  • Facts


    • Total operating profits for DAX industrial firms were up 9 percent over last year.
    • Sports-clothing giant Adidas cut its profit forecast, citing the Ukraine crisis and less demand in U.S. golf market.
    • Telekom’s earnings includes €1.7 billion ($2.25 billion) from deconsolidation of the Scout Group.
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Based on their second-quarter financial results, Germany’s big industrial firms appear in solid shape. Despite a slack economy in Europe, considerable currency headwinds and stagnating sales, most companies on the DAX blue chip German stock index posted increased earnings.

The 24 industrial firms on the DAX 30 had combined operating profits for the first six months of just under €50 billion ($66.77 billion). That’s up about 9 percent from last year. The net gain increased by another 3 percent. The average operating margin – the ratio of operating profit to sales – increased by just under a percentage point to 8.7 percent.

Taken together, the DAX companies are approaching peak numbers from the boom year of 2007. The picture looks even better if you exclude the energy companies Eon and RWE, which showed double-digit declines in profits due to the energy turnaround. The rest of the DAX companies generated an operating income increase of nearly one fifth.

This is significant because the increasing strength of the euro has clearly has put a strain on business. The impact on global companies slowed sales growth and profits by 2 to 6 percent. The fact that these adversities could be absorbed without hurting operating income is, in principle, a tribute to cost management. The efficiency and austerity programs of recent years are apparently showing positive results.

Taken together, the DAX companies are approaching peak numbers from the boom year 2007.

But all that is no reason to break out in wild elation, because the half-year results definitely have their snags. For one thing, various tricks in financial reporting overstate business success in one or two places. Telekom’s earnings before interest and taxes, for instance, lists €1.7 billion ($2.25 billion) from deconsolidation of the Scout Group. Lufthansa profited from a favorable deduction-taking method. ThyssenKrupp and Lanxess managed to increase earnings, but only compared to the crisis situation they were in last year. They are by no means working with enough income.

The second-quarter reports make clear that prospects don’t look good for continued increases in income – and in some cases they warn of looming losses. The severe profit cut forecast by sports-clothing giant Adidas is one indication of trouble ahead, but not the only one. BASF and Henkel are among the companies that also took more cautious tones for the future, even if they didn’t change their official earnings forecasts. Even BMW financial chief Friedrich Eichiner found it necessary to warn investors about inflated expectations after the surprisingly strong first-half numbers. Only two of the DAX companies, Infineon and Continental, were encouraged enough by the upswing to raise their earnings forecast for the whole year.

The crises in Ukraine and the Middle East and a weak economic outlook aren’t the only issues creating uncertainty. The job of increasing business operations is becoming more and more difficult overall. That’s because most DAX companies – from Adidas to Siemens – are struggling with some type of growth crisis. Solid sales growth at companies such as Daimler, BMW and Bayer, are today more the exception than the rule. Overall, the earnings of DAX companies have actually stagnated for the last two years.

As sales slow, corporations will need to invest heavily again – whether in product development and marketing, factories and equipment or in acquisitions. The trend is already emerging. The real investment quota of DAX companies, for example, increased in 2013 for the first time in years and again in the first half of 2014. Research spending also rose disproportionately, while mergers and acquisitions intensified.

This is all an indication that most efficiency gains from austerity programs and restructuring have been eaten up elsewhere. Investors should not be fooled by the solid second-quarter results. The path ahead will be rocky.

Siegfried Hofmann can be reached at hofmann@handelsblatt.com

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