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Analysis: China slowdown could knock tech, materials earnings

By Chuck Mikolajczak

NEW YORK (Reuters) - China was the world's turbocharged engine of growth for years, and U.S. technology, energy and industrial companies fattened their profit margins even if business struggled in other areas.

That's changing now, and it is hurting those companies and by extension overall earnings for S&P 500 index companies. Recent data shows the pace of growth in the world's second largest economy may slow for a seventh quarter, straining earnings in the technology and materials sectors.

The third quarter is shaping up for weaker earnings. Thomson Reuters data through Friday shows 90 companies in the S&P 500 have lowered outlooks versus 21 raised outlooks for a 4.3 ratio of negative to positive outlooks, the weakest showing since the third quarter of 2001.

While Europe remains the primary drag for globally focused companies, China's struggles are climbing the list.

Of the companies that warned for this quarter, 6 percent cited China for their declines, according to Thomson Reuters.

China, a large trade partner with Europe, has seen its growth slowing as the euro zone has been unable to solve its debt crisis.

CHINA AND WORLD GROWTH

The hit from China is both direct in slower sales by technology firms and indirect since reduced growth damages energy prices, sapping earnings of energy-related firms.

"The challenge on China is that if you do the math on a weighted GDP basis, 53 percent of world growth next year comes from China. So if China slows more than we expect, it will present a challenge," said Greg Hayes, chief financial officer of United Technologies Corp .

More than 90 companies in the S&P 500 derive 10 percent or more of their revenue from the Asia-Pacific region, Japan excluded, according to a Thomson Reuters analysis.

UTX has seen slowing demand in China for heating and cooling systems, as well as elevators, as Beijing works to rein in new construction. Other large multinational companies are feeling the effects as well. Recent caution by companies such as FedEx Corp and General Electric regarding the challenging economy confirms that.

"What you are seeing is this slowdown in Europe really ripple across the globe, really moving eastward through Europe, China, Japan and the United States," said Paul Mendelsohn, chief investment strategist at Windham Financial Services in Charlotte, Vermont.

At Caterpillar Inc , which last week lowered its 2015 profit target, Chief Executive Doug Oberhelman said that the heavy equipment maker's trajectory over the next few years will be closely tied to China's pace of growth.

"The big catalyst there is going to be when and how much we see China start to turn," Oberhelman told investors.

DISAPPOINTING QUARTER

Looking deeper into the impact across sectors, data shows technology and materials companies derive a large portion of their revenues from China, putting them at risk for a disappointing quarterly performance.

For the third quarter, technology earnings are expected to grow 2.3 percent on a year-over-year basis, down from a 13.1 percent growth rate forecast on July 1. The picture for materials firms is worse - with a projected earnings decline of 24 percent now, compared with a 3.3 percent decline estimated in July.

"When you come down to trading relationships with China you are dealing with the two sectors that in general have the biggest non-U.S. sales exposure and specifically the biggest sales exposure to Asia in general. That would be tech and materials," said Sandy Lincoln, chief market strategist at BMO Asset Management U.S. in Chicago.

Applied Materials Inc , which recently said it would cut its work force in an effort to deal with a slowdown, may be one such casualty. Detail from the chip-gear maker's third-quarter results show the company derived 10.8 percent of its revenue from China and 73 percent from Asia as a whole.

Other tech companies with heavy exposure to the Asia-Pacific region, excluding Japan, include Broadcom Corp , Micron Technology Inc , Intel Corp and Advanced Micro Devices Inc .

Some of these have seen their estimates hit hard. AMD quarterly earnings estimates are down 21 percent in the past 90 days, according to Thomson Reuters StarMine data. Micron's estimates have fallen by 12 percent and Intel's are down by 11 percent.

IMPACT ON COMMODITIES

Materials stocks, which benefited as China's infrastructure expansion drive increased demand for commodities, will also be sensitive to a slowdown in the region.

On an annualized basis, Newmont Mining derived 23.8 percent of its revenue from the Asia Pacific region, excluding Japan, last year.

For the third quarter, Newmont is expected to post earnings of 99 cents per share on revenue of $2.62 billion. Analyst expectations for per-share results are down 8 percent in the past 90 days, according to StarMine.

Similarly, Freeport-McMoRan Copper & Gold , which derives about 19 percent of its revenue from Asia Pacific, has seen its estimates fall by about 18 percent in the last three months.

(Reporting by Chuck Mikolajczak; Additonal reporting by Scott Malone in Boston; Editing by Kenneth Barry)

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