It has been a very interesting earnings reporting season to date, with many companies reporting profit growth.
Investors typically focus on net profit after tax (NPAT) when valuing companies. Making a profit is ultimately what being in business is all about, and the market values a company based on its current and expected profits.
In this earnings season, plenty of companies have revealed sales growth and delivered stronger profit growth. Is that something to worry about?
Report examples
Let's look at three recent results that showed single-digit revenue growth and faster earnings growth.
Breville Group Ltd (ASX: BRG) reported its FY24 result yesterday, revealing 3.5% revenue growth to $1.53 billion and 7.5% NPAT growth to $118.5 million.
Cleanaway Waste Management Ltd (ASX: CWY) also released its FY24 earnings report yesterday. It revealed a 7.7% revenue growth to $3.2 billion and a 14.8% NPAT growth to $170.6 million.
ARB Corporation Ltd (ASX: ARB) reported its FY24 result on Tuesday. Its sales revenue increased 3.5% to $699 million, and its NPAT increased 16.1% to $141.1 million.
There's more than one way to grow earnings
Growing revenue is a useful driver of profit growth because many businesses have in-built operating leverage, where their costs don't rise as much as revenue as they become larger.
Scale advantages like buying power, utilising assets more and lower fixed costs as a percentage of revenue can help a company raise margins.
However, some companies — such as ARB, Breville, and Telstra Group Ltd (ASX: TLS) — have actively worked on reducing their costs in FY24.
The last couple of years have seen a significant increase in costs across a variety of categories, and businesses have suffered from that headwind as well. So, companies have been looking to reduce their overall costs in the current environment.
Should this be a worry?
It's good for businesses to ensure they're not spending unnecessarily on things.
However, a cut cost can't be cut again in the following year — that's a one-off profit boost. Therefore, it's important that investors don't assume that profit will rise in the next year.
Plus, it depends on what costs those businesses are cutting. A company could decide to reduce marketing costs in the short term, which would boost profit. However, cutting advertising could hurt longer-term sales — bad news for the company and shareholders.
Likewise, cutting essential staff from customer service or product design could have a long-term negative effect.
It might be that a company is targeting wasteful spending or overspending in its cost-cutting. But, again, those costs can only be cut once. There's only so much a business can cut before it hurts operations.
Investors seem to love the higher profits in FY24, but hopefully, these companies can deliver profit growth from operating leverage in the next 12 months.
