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Weak Sales Raise Doubt on Wall St.

Investors worry that shortfalls by blue-chip companies may mean disappointing earnings in the future. Smaller stocks race ahead.

January 26, 2006|Tom Petruno | Times Staff Writer

Sales shortfalls at some big-name companies are giving investors second thoughts about betting on blue-chip stocks this year.

That's helping smaller shares race ahead in January on expectations that those companies can show stronger growth than blue-chip giants. Smaller stocks have outperformed big stocks for six straight years.

On Wednesday, shares of candy giant titan Hershey Co., conglomerate 3M Co. and semiconductor leader Texas Instruments Inc. helped to pull the market lower after the companies disappointed investors with their fourth-quarter results.

Stock of General Electric Co., which helped to trigger a steep market decline Friday with its quarterly report, hit a 52-week low of $32.65 during trading Wednesday. GE's shares are down 6.5% this year.

By contrast, the Russell 2,000 index of smaller stocks closed at an all-time high Tuesday. It slipped 0.2% on Wednesday but still is up 6.4% this year, far outpacing the 1.3% advance of the blue-chip Standard & Poor's 500 index.

Through Wednesday, about one-third of the companies in the S&P 500 had reported their fourth-quarter results.

Overall, the average year-over-year gain in operating income has been 13.8%, according to data tracker Thomson Financial in Boston. That is slightly above the 13.3% growth that analysts, on average, had projected at the start of the year.

But Wall Street has been worried by weaker-than-expected sales growth at some major firms. The concern is that if a company is having trouble selling its basic products, that inevitably will translate into weaker earnings growth down the line.

For investors, "revenue is becoming more important" as an indicator of a company's prospects, said Howard Silverblatt, who tracks earnings trends at Standard & Poor's in New York.

GE on Friday reported quarterly earnings that matched analysts' consensus estimate, but its sales of $40.7 billion were below the $42 billion that analysts, on average, had anticipated.

Hershey said Wednesday that its fourth-quarter earnings rose 3.4%, to $172.8 million, or 70 cents a share. Sales of $1.35 billion were up 6.7% from a year earlier, but that was a slowdown from a 9% rise in the third quarter and a 10.6% increase in the second quarter.

Hershey shares slumped $1.80, or 3.3%, to $52.30, a 52-week low.

In recent days, 3M, Texas Instruments, Johnson & Johnson and Intel Corp., among other large firms, also have reported sales that have missed expectations.

To be sure, revenue concerns aren't universal among big-name companies. United Technologies Corp., a major producer of industrial goods, said Tuesday that its quarterly sales jumped 14% to $11.3 billion.

Sales growth reported Tuesday by fast-food leader McDonald's Corp. also impressed Wall Street.

What's more, weak fourth-quarter sales could prove to be temporary. The economy overall slowed in the period as consumers pulled back on spending and as some hurricane-related business disruptions persisted, but many economists believe that growth will pick up this quarter.

Texas Instruments executives, on a conference call with analysts Monday, said demand for the company's chips was "very solid and very broad," and that fourth-quarter sales were hurt in part by some production bottlenecks.

John Butters, an analyst at Thomson, also cautioned against drawing conclusions from earnings reports so far, noting that two-thirds of the S&P companies had yet to issue results.

Still, the slide in many big-name stocks this month suggests that investors are fearful that revenue weaknesses could persist this year, analysts say.

Hunting for better growth ideas, some investors are turning to shares of smaller companies.

Case in point: Milpitas, Calif.-based computer chip maker Intersil Corp. on Wednesday said its fourth-quarter sales rocketed 38% to $176 million, and that earnings nearly doubled to $28.7 million, or 20 cents a share. The firm said the results "are just the beginning" of the near-term improvement it expected.

Intersil shares, which rose 91 cents to a 52-week closing high of $26.85 before the results were announced, jumped to $28.26 in after-hours trading.

Just as fourth-quarter revenue is a mixed picture for big-name companies, smaller firms also are likely to have widely disparate results, of course.

But James Awad, head of Awad Asset Management in New York, which specializes in small-company investing, said it made sense that investors who were seeking faster growth potential would look to smaller stocks.

Smaller companies "are more in control of their own destiny, and not as dependent on growth of the total economy" as bigger firms, he said. "There are a lot of niche companies that are dominant in their sectors."

On Wall Street, however, many analysts had expected that blue-chip stocks would have a performance edge over smaller shares this year. One argument was that smaller stocks were due for a rest after outpacing blue chips, on average, since 2000.

Satya Pradhuman, a small-stock specialist at Merrill Lynch & Co. in New York, said investors weren't likely to be dissuaded from buying smaller shares simply because they have done well for six years. He said shares of many smaller firms still were at attractive valuations compared with sales and earnings.

The choice between big-name stocks and smaller stocks, Pradhuman said, "comes down to two simple things: relative value, and who's going to grow faster."

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