3 Stocks That Trounced Earnings Forecasts

A positive earnings surprise bodes well for a stock, generally speaking. A company that surpasses Wall Street’s forecasts in a given quarter is more likely than not to do so again the following quarter, and its shares tend to outperform the broad market over the following year, a phenomenon researchers call post-earnings announcement drift.

If you’re going to search for upside surprises, though, look for big ones. While you’d think that companies would surprise pleasantly as often as they disappoint, and that the average results of many companies over many quarters would match forecasts, in fact, companies have since the 1980s grown gradually more likely to beat estimates. That suggests managers are either systematically guiding analysts too low, or tweaking the numbers during a close quarter to beat forecasts by a smidgen, or, as some studies suggest, both. Note that tweaking isn’t necessarily cheating. A manager might, say, slash research spending late in the quarter, to the detriment of long-term profits but to the aid of immediate ones. But the result is that companies that beat by a whisker while slashing crucial spending typically end up producing poorer stock returns than ones that miss by a little while making healthy investments in the business.

The companies listed below didn’t just beat forecasts by a penny, a nickel or even a dime per share in their most recent quarters. They beat by an amount that suggests Wall Street is sharply underestimating their performance.

Estimated EPS: $1.34
Actual EPS: $2.07

Freeport-McMoran (FCX) is the world’s No. 2 copper miner, with a 10% market share, and through its giant, easy-access mine in Indonesia, is also one of the world’s lowest-cost producers (ignoring environmental costs). Copper is expected to bring in 73% of company sales this year and gold, 19%. Recent results were powered by just about everything going right: metals prices were higher than forecast, production volumes were larger and operating costs were lower. And that’s without much of a global recovery in construction, which could significantly boost demand for copper wires and such. The company beat earnings forecasts by 54% in its most recent quarter and 100% in the quarter before that, and analysts are scrambling to raise their projections. Over the past 90 days, the estimate for 2010 earnings has increased 50%. Shares are 17 times this year’s consensus and 12 times next year’s.

Estimated EPS: $0.94
Actual EPS: $1.25

So much for sluggish computer sales. Hard drive maker Western Digital (WDC) posted 5% sales growth on a 12% increase in volume in its most recent quarter. Earnings per share jumped 36% and topped forecasts by 33%, after the company more than doubled forecasts the quarter before. Analysts say hard drive inventories are lean and demand is recovering more quickly than expected from a recent spending lull, and that Western Digital is operating at 98% of production capacity—good for margins. Investors still don’t seem convinced. Shares are just eight times earnings, even though the company sits on net cash equal to about 19% of its stock market value.

Estimated EPS: $1.42
Actual EPS: $1.82

Apple (AAPL) is perhaps the best-performing big company in America at the moment. Despite sluggish consumer spending over the past year, shoppers remained willing, even eager, to pay a premium for Apple computers, phones and music players. As a result, the company enjoys profit margins that are double those of Hewlett-Packard (HPQ) and more than three times those of Dell (DELL). The stock is expensive for my tastes, at 26 times forward earnings, and it carries no dividend, but it’s not difficult to justify the price if you’re trying. Subtract the cash from the stock price and adjust for the effects on earnings of Apple’s conservative approach to booking its iPhone sales, and you end up under 20 times forward earnings. That’s still ambitious, but it’s not absurd.