Here's Why Industrial Stocks Are Set for a Tough Earnings Season

Expect more volatility to come in the current earnings seasons. At least, that's how it looks in the industrial sector if the earnings report from industrial supply company MSC Industrial Direct (MSM -0.34%) is anything to go by. Here's the lowdown and how you might prepare to invest in the coming earnings season.

Another weak quarter for MSC Industrial

Industrial supply companies serve as reliable indicators for the industrial economy. Their sales cycles are notably short, which means they are quick to experience the effects of market slowdowns and can rapidly expand sales when conditions improve. This sensitivity underscores the need for careful consideration in your investment decisions.

Naturally, not all industrial supply companies are equal. In MSC Industrial's case, sales are heavily focused on heavy manufacturing (almost half of its sales) and, to a lesser extent, light manufacturing (around 20%).

Unfortunately, those are not great end markets to be in during 2024. First, the U.S. industrial production index has weakened in 2024.

US Industrial Production Index data by YCharts.

Second, a particular weakness exists in MSC Industrial's core heavy manufacturing end market. Unfortunately, this has been an ongoing issue. For example, MSC Industrial missed its sales expectations over the winter, which led to a disappointing first quarter.

That weakness extended into MSC's second quarter, with CEO Erik Gershwind noting that, of its top 100 national accounts, "only 45 were growing last quarter. As a result, revenue growth to date has been below our expectations."

Consequently, MSC Industrial's average daily sales growth continues to disappoint.

Data source: MSC Industrial Direct presentations.

Zeroing in on its manufacturing sales growth, it's clear that end-market conditions remain weak. As such, CFO Kristen Actis-Grande told investors that, given performance so far this year, its full-year average daily sales growth and adjusted operating margin would be "at the bottom end of" its guidance ranges.

In fact, just to hit the bottom end of its average daily sales growth of (0%-5%), MSC Industrial is relying on an improvement in its heavy manufacturing end markets and an easing of public sector budget constraints.

Data source: MSC Industrial presentations. Chart by author.

It's an even more disappointing performance when considering that MSC's initiatives in expanding its in-plant programs and vending machines is bearing fruit. For example, MSC now has 312 in-plant programs, compared to 224 in the same quarter of last year. In addition, its vending machines are up to 25,854 from 23,286 a year ago. Management noted that these efforts were performing ahead of expectations.

In other words, the company is doing its bit, but end markets are not helping much.

Image source: Getty Images.

What it means to the industrial sector

Many industrial companies are relying on a back-end-loaded year to meet their full-year expectations, and if what MSC Industrial is saying reads across the sector, then there are likely to be some disappointments in the current earnings season. As such, there could be many references to push-outs and recoveries taking longer than expected in the next few weeks.

This is not to argue against buying stocks in this environment. After all, if the valuation is right and a company's long-term prospects remain good, then one or two quarters of trading shouldn't make much difference to a long-term investor. Incidentally, trading on 16 times estimated 2024 earnings (which should prove a trough year), and with good growth opportunities from its vending machines program, MSC Industrial is one of those.

However, in general, good entry points are important to generating investment returns. Waiting for the earnings and guidance to come out makes sense before looking to initiate a long-term position. If MSC Industrial's earnings and guidance read well, then there will be plenty of opportunity for that approach to work soon.