Tetra Tech’s Two-Penny Disappointment

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Tetra Tech Logoby Debra Fiakas, CFA

Tetra Tech’s (TTEK:  NASDAQ) quarter earnings report last week was met with high drama as traders reacted with surprisingly vehement disappointment over the recent financial performance of the engineering and technology business.   The company’s stock price gapped down in the first day of trading following the announcement, falling through a significant line of price support.   The shares continued to fall and finished the week at a price not seen since mid-April 2017 before the stock began its recent drive higher.

The drama unfolded after Tetra Tech reported net earnings of $0.52 per share on $498 million in total sales in the quarter ending June 2017.  This compares to the consensus estimate of $0.54 EPS and $535.2 million in sales.  The two penny ‘miss’ was apparently seen as egregious despite the fact that reported results represented solid year-over-year growth rates in the high teens.

We believe investors may have overreacted to the news, but certainly the company is not performing as well as was expected as traders bid the stock to a new 52-week high price of $48.35 in the run up to the earnings report.  Trading in the week prior to the earnings report may have been unjustifiably exuberant and in the earnings miss an equally strong reaction was to be expected.

If not an earnings miss, perhaps it was management’s guidance that caused investor indigestion.  Management’s guidance for the year is expected to be $2.10 to $2.12 in earnings per share on sales in a range of $2.0 billion to $2.02 billion.  This is below the prevailing expectation for sales near $2.05 billion and earnings of $2.17 per share.  The difference is due in part to the disappointment in the June quarter, but also implies lower than expected results in the fourth quarter as well. Even if investors could accept the two-penny earnings miss, failing to deliver strong guidance will not be taken lightly.

The sensitivity of investors to Tetra Tech’s earnings may inject unnecessary volatility into the stock performance.  As a consulting and engineering firm focused on the environment, water and energy, Tetra Tech is bound to experience quarterly variance in earnings.  Contracts get delayed. Weather impedes work schedules.  The company is also a frequent recipient of contract awards from government and quasi-government agencies.  The pace of publicly funded programs, which tend to be years in the making and almost as long in execution, is not always in sync with the three-month cycles that govern investor thinking.

Tetra Tech shares are likely to eventually recover.  The company frequently  reports its progress with market penetration through contract announcements that serve as strong catalysts for the stock price.  Just this week Tetra Tech announced the receipt of a contract valued at $60 million from the U.S. Environmental Protection Agency (EPA).  The contract extends over the next five years to provide technical and analytical services to evaluate the ecology and health risks in fresh, ground and sea water.

The steady drumbeat of contract awards tends to sooth the insult that investors might have felt subsequent to the earnings announcement.  They also tend to cause the stock to run up as the quarter unfolds only to deflate again when the earnings announcement fails to meet expectations.  Tetra Tech’s engineering and technology service menu is appealing for investors interesting in a stake in environmental clean-up, but the business model also a bit of price volatility along the way.

Neither the author of the Small Cap Strategist web log, Crystal Equity Research nor its affiliates have a beneficial interest in the companies mentioned herein.

Debra Fiakas is the Managing Director of Crystal Equity Research, an alternative research resource on small capitalization companies in selected industries.

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