A year ago, technology companies suddenly seemed vulnerable.
and Google were under pressure for privacy issues.
were being talked about as monopolies. But now big tech is back to its all powerful self, with companies like Amazon and
helping to keep us going through the quarantine. This week on The Readback, Alex Eule and Barron’s reporter Eric Savitz wonder: can anything stop tech now?
Alex Eule: Hey, Eric.
Eric Savitz: Hey, Alex.
Eule: Thanks for joining us. It has been a pretty exciting time for tech in the last few weeks. And it is just staggering when you look at the numbers, because for all the pain in the stock market over the last two months, tech companies are actually doing quite well. If you only owned companies in the Nasdaq Composite, which is a tech-heavy index, your portfolio at this point would be nearly flat on the year. How is that possible?
Savitz: Yeah, it is pretty remarkable. If you look at the largest tech companies, they have all been pretty good places to hide out. They have been producing pretty strong financial results and they are all adding users, and I think they are actually gaining power. I think you’ll see all of the largest ones—Apple (ticker: AAPL), Amazon (AMZN), Microsoft (MSFT), Alphabet (GOOGL), which of course is the parent of Google, and Facebook (FB)—all of these companies are going to come out of this downturn stronger than they went in. And investors have kind of figured it out.
Eule: So, when we talk about big tech, those are the names that really we should be thinking about.
Savitz: Yeah, well, if you think about it, those are the five largest U.S. companies by market cap. Three of them—Microsoft, Amazon, and Apple—are the only companies with market valuations above a trillion dollars. These are the largest companies in America, and they are all doing just fine.
Eule: Alright, so we have big tech. Explain to us a little bit more about why they are so well positioned.
Savitz: I think there is a couple of key things. So first of all, all of them have very large and very loyal user groups. So, whether you’re talking about Apple and iPhones, or you’re talking about use of social media, or you’re talking about Microsoft and Amazon and Google’s cloud businesses, they all have very large groups of users. Facebook now has more than 3 billion users. It is just an astonishing number, it is like close to 40% of the population of the earth, right, are using one of their platforms. Amazon has gotten so much demand in the current downturn in the last month or so, they have hired another 175,000 employees. Apple’s up to 550 million subscribers to their various digital services. All of these companies are seeing huge and growing demand for their services.
(NFLX) just had their biggest quarterly subscriber growth ever. All of these numbers suggest these are the services that people are using.
Now, there are a couple of other key parts, right? These are very strong companies. Financially, they have some of the best balance sheets of any companies on Earth. They have mountains of cash. They have the ability to withstand a downturn in a way that many other companies can’t. So while you see companies like the airline industry, and the auto industry, and retailers, and restaurants really struggling fundamentally here, these companies are hanging in just fine. They are not taking any government aid. They are actually hiring people, not firing them. They are remarkable businesses that are just demonstrating in the downturn just how well run they are and how crucial they have become to our daily lives.
Eule: Yeah. And now, what’s interesting to me is this is obviously not a surprise to folks, right? I mean, big tech has been leading the stock market for several years now. Those companies are what led the market to its record highs, culminating in February. But what’s so interesting is as everything else has fallen apart, you think that big tech is going to come out of this crisis even stronger than where they were when they went in.
Savitz: Yeah. So, for example, many of these companies are seeing an increase in the number of users. So, think about Amazon, for instance. There is a huge opportunity for them to grow their share of the retail market. You can argue societally whether that is a good thing or not. But I think that, from a positioning point of view, some of the people—I don’t know what the percentage is—but some of the people who weren’t using Amazon will continue to use them after this all ends, or we get to whatever the next stage of normal might look like. And I think you can make similar arguments for some of the other businesses. You know, say if you look at Microsoft: Their PC business has been stronger than expected because what are we all doing? We’re all working on PCs at home, and the urgency of doing that has increased dramatically. And then, what are we doing with those PCs? We are accessing information and services in the cloud.
Eule: Yeah. Let’s talk a little bit about the cloud because we hear about it so much, we hear about how important it is, but sometimes it is a little kind of, you know, in the clouds. So, put some real world examples on why the cloud is so important.
Savitz: So, what we’re really talking about is services that you can reach online. They include things that are very familiar to us, like Facebook is run from the cloud, or Gmail is run from the cloud, or Google searches, or YouTube, or almost anything you do online is sitting on a server in some location—or probably multiple locations around the internet—and you can access those things remotely. Now, what we’ve kind of used to doing that with consumer services, that is how we think about the internet. But what businesses are increasingly figuring out is you don’t need to go hire more IT staff. You don’t need to go buy all this infrastructure. That approach isn’t smart and isn’t efficient. So, if you rely on someone else to provide those services, it is easier to add capacity. You don’t have to go out and buy servers every time you need to add capacity, or shut them down if you need to reduce capacity. And then meanwhile, it is the ability to access all of these things without ever getting into the office. Think about Barron’s. We are running this magazine and our website every day without any of the editorial staff ever going into the office. And it is amazing, and it wouldn’t have been possible even a few years ago. And I think the key point here is there are really just a handful of major players here, and it happens that three of them are Google, Microsoft, and Amazon.
Eule: So, yeah, it is just amazing that these three big companies, which have huge user bases, on top of all that have this growing and booming cloud business. The thing that, by the way, I think is so interesting to talk about now is that this is no longer academic, right? I mean, we’ve been seeing how big the numbers are for the cloud and the tech platforms. And last week, it got even more real because over a three-day stretch, all five of the big tech companies we’ve been talking about reported earnings. And for the most part, they were stellar.
Why don’t you tell us a little bit more about what we learned from big tech’s earnings week?
Savitz: We did learn, first of all, that these companies are doing just fine and in some cases are doing much better than people even had imagined. I think one of the most surprising things is that the advertising environment online is actually a little bit better than people had anticipated. Now, you have to remember that the current advertising environment is very challenging because you have some huge industries that are typically very large advertisers that are effectively shut down. Travel is basically the top of the list, but also some off-line retailers, and the movie industry, and even autos, and let’s not forget small- and mediumsized businesses. A lot of small businesses are very challenged here. And we could get hit by a wave of bankruptcies by small businesses that certainly aren’t buying ads online.
Eule: Yeah. So, basically going into this earnings week, everyone was thinking advertising revenues would be down what, 30, 40, 50%, right?
Eule: And what did we see?
Savitz: Well, so now, you have to remember, shutdowns didn’t really begin until the middle of March. So, they all had pretty good Januarys and Februarys, and then in the middle of March, things started to go south, and they had a bad few weeks, the end of March. And then remarkably, Facebook and Google both said early April, things kind of stabilized, which isn’t what anybody was expecting. Now, I will say, they both were very careful to say, don’t extrapolate too much. You know, we don’t know what’s going to happen the rest of the quarter. And you know, the year over year comparison is going to be far worse in June than in March, the current quarter and the June quarter, because the June quarter it is all virus, right, for three months. So, it is going to be a tougher quarter from a comparison point of view. But at the margin, things don’t look as bad as people feared.
Eule: OK. And then I wanted to talk a little bit about Microsoft, because they are sort of at the center of everything. So, not only do they have the cloud business, but they have the software business that is helping companies actually communicate with each other. They have this thing called Teams. They obviously have their Office suite, but basically, everything now, all the communications and the remote work we’re doing together, if you use Microsoft, you’re using their software. Their CEO Satya Nadella had what I thought was maybe the most important comment that I saw from this set of earnings. [CLIP FROM NADELLA]
Savitz: Digital transformation is a very popular buzzword in the tech business. And it is this notion of basically taking things that you were doing in house and putting them in a cloud, right? So, doing it on the network, and also digitizing more of your work or using computing to drive more and more of your work. And in some cases, companies have now been forced to accelerate that process, and it is kind of a triumph for Microsoft, in a way. I mean—not like anybody wants to sound too excited in this current terrible environment—but it is playing out very, very well for Microsoft, no question.
Eule: Alright. And then late in the week, we got reports from Amazon and Apple. They weren’t quite as well received by investors, but they were still, relatively speaking, pretty good.
Savitz: Yeah. Now, so, Amazon, of course, is the winner of the group for the full year. So, I think there is a little bit of profit-taking there. But I think one of the most amazing things about Amazon is what they said is in the June quarter, you know, it is going to be a quarter that is going to be unusual, this isn’t the way it normally would look. And that gave people a little bit of pause, but the stocks kind of come back from there. And I think it is really just sort of Amazon flexing its financial muscles. And, you know, the other interesting one, I think Apple—which Apple was the first company, if you go back to the middle of February, they warned that their March quarter results wouldn’t meet their previous guidance, which I guess they had given a couple of weeks before, because of the beginnings of the coronavirus epidemic, which at that point, there weren’t even any diagnosed cases in the U S market. It was all in China. So, they were very early. And then, Apple ended up beating the street’s numbers by billions of dollars at the revenue line, in typical Apple fashion. Now, the other thing is Apple didn’t give June guidance. Now, Apple is usually pretty regimented about providing guidance for the next quarter. They didn’t do that, but I think people did come away feeling generally pretty good about where Apple is, and the stock is doing fine.
Eule: OK. Another big theme from big tech’s earnings week was around buybacks. So, for months now, we’ve seen companies—most companies—cut back on these buybacks, which are stock repurchases. It is basically a way that the company comes in and buys back the outstanding shares that are out there, which effectively boosts earnings because if you have less stock out there, every dollar that a company earns is worth more to the existing shareholder base. So, that is been this big trend for years. Now, companies buy back billions of dollars of stock with Covid-19, of course, a lot of companies are in dire straits. They want to conserve their money. So, most of corporate America, starting with all the big banks, have said we are suspending our stock repurchases so that we can focus the money elsewhere. That might mean giving more to employees, or keeping people employed. So, that was sort of the trend, right? Big tech comes into the week and says, not us, we are going to continue buying back stock—in the case of most of these companies, in the billions of dollars. What is going on there and should we care? Is it meaningful?
Savitz: Sure. So, look, I think one thing to remember is that the tech business isn’t monolithic on this score, and so companies that have a lot of debt on their balance sheets have slowed or stopped their stock repurchases, right? But if you look at these companies in particular, we’re talking about Microsoft and Google and Apple, they have huge amounts of cash, and they are already hiring people and investing in R & D, and they are growing their businesses, and they just happen to have businesses that roll off tremendous amounts of cash. And so, they continue to repurchase their stock. Now, I think it is important to remember that if you think your business has too much cash, there are only a few things you can do, right? You can bank it, but the returns available in the current environment are very, very low. You can pay it out in the form of dividends, or you can buy back stock, which is viewed as a different way, sometimes maybe a more tax efficient way to return cash to your shareholders. And all of the companies that have stopped doing buybacks—we think about banks, and airlines, and hotel chains, companies that are taking government aid or relying on government aid right now—they don’t have anything in common with these companies.
Eule: One other thing I wanted to talk about is if you were an investor, specifically a tech investor over the last year or two years, probably the one real negative thing you could still point to about the stocks was that there was likely going to be this wave of government regulation. That tech companies were getting too powerful, and you had this kind of shift in sentiment among politicians specifically that they wanted to regulate them. Maybe even break them up. It feels like that may be gone now because we’re all relying on technology, as we’ve talked about, to get us through this pandemic. So, I mean, Eric, do you think that this so-called techlash is now over?
Savitz: So, I wouldn’t say it is over. I think we have a pause, right, because we have other things, more pressing matters to solve. And I think it is true that they were being attacked in Washington—and by the way, from both sides of the aisle. I think they do have a little bit of a pause. I think there are some elements of this that we will come to take a fresh look at. You know, what’s the Superman line, like, with great power comes great responsibility. There is going to be more pressure.
Eule: Is that Superman or Spider-Man?
Savitz: Is it Superman or Spider-Man? It should apply to both of them. I think they should both apply to this. Right?
Eule: I mean, it feels to me, if in fact there is this pause in the techlash, there is just really, in a lot of ways, no stopping tech right now. So, would you say investors should just be buying more and more tech, and kind of excluding the rest of the stock market? Is that the answer to the rest of 2020? Buy tech?
Savtiz: Well, I mean, I’m not sure you want to do a tech-only portfolio. There are some other places that are doing okay, but I do think that having broad exposure to this particular group of stocks has some logic to it. I mean, I think these companies have a huge growth opportunity. They are expanding their reach into new areas. They have a financial muscle and they have never looked stronger. And, you know, I think in most cases with some of the smaller players, their businesses are going to struggle a little more. So, I think this is a big-get-bigger situation, and having exposure to these names seems like a good idea to me.
Eule: Alright. Well, thanks so much, Eric, for joining us and we’ll talk to you soon.
Savitz: My pleasure, Alex.
The Readback is a business and finance podcast published every Wednesday. We’d love to know what you think of the show, so please take a moment to rate and review us in Apple Podcasts—or write to Alex Eule at email@example.com and producer Mette Lützhøft at firstname.lastname@example.org.