Profit Warnings: Here are 5 companies that issued them recently and red flags to look at for

A profit warning out of a company is never a good sign for investors.

It is an official announcement made by a company that its current expected financial performance is lower than initially projected. This news will inevitably lead to a loss of confidence in the company by its investors and potential inquiries from regulators. In this article we’ll outline why this can happen, recap 5 ASX stocks that recently issued them and we’ll tell you about red flags to look out for.

 

Why are profit warnings issued?

As we outlined above, a company issues a profit warning when it expects its financial performance will be lower than initially projected.

This may be due to a variety of internal or external factors affecting the company. Internal factors may include weaker demand for the company’s products or services, rising costs and expenses or higher-than-expected competition. External factors may include regulation or perhaps a downturn in the company’s industry or broader economy.

By law (both the Corporations Act and ASX Listing Rules), a company is required to issue a profit warning when it is materially certain that its performance will be worse than it had anticipated.

 

So what’s the big deal?

Profit warnings can have serious implications for investors and shareholders, since it is likely to lead to a drop in the share price of the affected company. It is also likely to lead to an extended downturn as that confidence can take some time to be regained, especially if the company has issued previous guidance and reiterated it multiple times.

If the company is a dividend payer, it is inevitable that the payout will be lower. A profit warning also signals to potential lenders or partners that the company may not be able to fulfill their obligations in the current period, thereby affecting the company’s future prospects of obtaining future finance.

All of these ring particularly true if companies issue multiple profit warnings in a short-space of time.

 

The worst examples of profit warnings

There are several examples on the ASX of companies that have issued profit warnings and paid the price for ages.

One is Nuix (ASX:NXL), which in the June quarter of 2021 downgraded its guidance twice in 6 weeks. Neither downgrade was excessive, but the mere fact there were multiple cuts led to concerns about the governance of the company and lack of visibility.  This was particularly the case with the second downgrade, coming days after a Fairfax investigation into Nuix’s culture and governance. You see, sometimes profit warnings are issued at inconvenient times for a company and they can rub salt into already open wounds. Two years on, hardly anyone remembers these initial profit warnings because these barely scratched the surface of Nuix’s problems.

Second is AI tech company Appen (ASX:APX), which is down over 90% since mid-2020. To be fair, the declines have come at the unveiling of its results. But these results have typically missed consensus estimates and came with a warning about future revenues.

Historically, Appen’s client base was concentrated around a handful of big tech companies and predominantly for advertising purposes. The company has been diversifying its customer base into new clients and markets although investors fear these cash flows won’t be as reliable and as strong as before. This has been showing in its results and in repeated failure to meet its own guidance, let alone consensus estimates.

 

Some more recent examples

These 4 companies have issued warnings just prior to the end of FY24.

 

Eagers (ASX:APE)

When a company makes a record profit, it is going to take another record for such a company not go ‘backwards’. This automotive retailer, which counts Rich Lister and Sydney Roosters boss Nick Politis as a Director, told investors at its May AGM that it expects its underlying profit before tax for the first half of CY24 to be only 85% of the first half of CY23. Even though revenue was up 18.3% in the first four months of the year, several factors squeezed margins including market competition, inflationary conditions and the fact that recent acquisitions were taking a while to be reflected in the company’s results.

 

GrainCorp (ASX:GNC)

Volatile conditions is just the way it goes when you’re an agricultural company. Just 3 weeks prior to the release of its results for the 6 months to March 31 2024 (1HY24), the company told investors to expect an EBITDA of $164m and a profit of $57m. This compared to $383m EBITDA and a $200m profit 12 months earlier. Ouch! For the 12 months to September 30 2024, the company had told investors to expect $270-310m EBITDA and a $65-95m profit. These would have been enough of a downgrade from the $565m EBITDA and $200m profit in FY23, but it got worse.

GrainCorp investors were told to expect $250-280m EBITDA and a $60-80m profit. Why? Grain and oilseed markets were moderating after three years of favourable weather and record prices.

 

Australian Vintage (ASX:AVG)

Still with companies impacted by economic conditions, this owner of wine brands (including McGuigan, Tempus Two and Nepenthe) told investors in late April that wine yields were down 20% on expectations and its profit would be lower as a consequence. Not good at a time when the wine industry has been oversupplied for 2 years.

AVG is currently suspended and trying to undertake a capital raising as it realised debt levels had blown out to $70-75m, from $43-50m which it had previously guided to. Attempts to merge with Accolade came to nothing, with that company giving up on talks that had lasted for 3 months.

 

Baby Bunting (ASX:BBN)

It is true that baby supplies aren’t discretionary, they are a staple. Nonetheless, unlike some consumer staple companies, consumers have a choice as to where to go and parents have opted to go to stores that offer the same goods for less. This has been going on for two years now and the company has issued multiple warnings in this time. But its most recent was on May 9, when the company told investors that its comparable store sales growth was down 7% in the first half of the year, 7.7% for January-April in CY24 and down 7.4% for the 10 months to April 2024.

 

How to forsee a profit warning

You can clearly see it is in your best interests to get out of a stock before a profit warning. But how can you predict a profit warning before it happens, if at all? We think there are five ways.

First, pay attention to any sudden changes in the company’s operations and financial performance. If there are significant shifts, such as a sharp decrease in sales or profits compared to expectations, this could signal that the company is headed towards issuing a profit warning. Granted, investors usually only find out about these movements when it’s too late.

A second thing to watch out for is sudden changes in management behavior and communication with shareholders. If the company suddenly becomes less transparent or more guarded in its statements, it could be an indication that something major is happening behind the scenes.

Third, it can also be helpful to look at how the share price has been performing over time. A drop in the price could indicate that investors are anticipating some kind of negative news regarding profits from the company. Of course, this isn’t always true since stock prices can be affected by many factors. However, if there’s a dramatic shift and no other reasonable explanation for it, then it might be worth paying closer attention.

 

Change in accounting and higher level trends

Fourth, pay close attention to any changes in accounting practices or policies within the company. Companies sometimes use accounting adjustments as a way of masking losses or highlighting gains. If these changes are made without explanation or proper disclosure then it could mean that they’re trying to avoid disclosing bad news about their profits.

Finally, and most importantly, look for trends in the company’s industry that you can clearly see are impacting the industry, but not the company (yet). For instance, the daigou market dried up during the COVID-19 pandemic and this was a big hit to A2 Milk (ASX:A2M). It took investors some time to realise this, not until the company reported it.

But Blind Freddy could’ve seen that it would catch up to the company eventually, given the trade was a big source of the company’s revenue. It just goes to show that being contrarian can be money-making or loss-avoiding, while going with the flow and not thinking for yourself can have bad results.

 

Watch out for profit warnings

You can clearly see a profit warning is not a good thing for a company or its investors. So, investors need to monitor their investments and if they see the aforementioned warning signs, they could consider exiting.

 

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