Faith In Mega Tech’s Growth Is On the Line This Earnings Season
(Bloomberg) -- Investors still believe technology is the best place in the stock market to find reliable revenue and profit growth. That will be tested this week.
The five largest U.S. technology companies are set to report earnings, starting with Facebook Inc. on Monday. They could use a strong showing, as big tech’s market dominance faces threats from rising interest rates and slowing revenues.
The stocks remain expensive. The Nasdaq 100 Stock Index is just 2% from a record high despite Friday’s decline.
“It is all about the ability of these companies to deliver on earnings,” JPMorgan Asset Management strategist David Lebovitz, who helps oversee $2.7 trillion in assets, said.
There have been some high profile earnings misses, particularly Snap Inc., which plunged 27% on Friday after warning that customers are cutting back on digital advertising spending. That sent shivers through the industry, as Facebook and Twitter Inc. tumbled around 5%, while Google-parent Alphabet Inc. fell 3%.
Technology companies in the S&P 500 Index are projected to report revenue growth of roughly 19% for the third quarter, exceeding the benchmark’s average, according to analyst estimates compiled by Bloomberg Intelligence. Among the megacaps, Alphabet is the leader at 38%, followed by Facebook at 37% and Apple Inc. at 31%. However, the expansion is seen slowing beginning in the fourth quarter.
Jensen Investment Management portfolio manager Kevin Walkush isn’t so sure. He believes big technology companies can keep delivering strong revenues and earnings that justify their valuations.
“These companies have pricing power, and combined with underlying growth drivers, that really helps generate high returns and reinvest in the business and perpetuate that strength,” he said in an interview.
Investors, however, are clearly skittish. So far this earnings season, 85% of tech companies have beaten profit estimates, but the stocks have fallen an average of 2.4% the following day.
Centre Asset Management chief investment officer James Abate thinks this is a sign that the market’s getting nervous about sky-high stock prices. The Nasdaq 100 is well above its 10-year average of 20 times profits expected over the next 12 months.
“These companies need to put up astronomical growth and improved profitability metrics in order to justify their valuations,” he said in an interview.
Here’s a closer look at expectations for the five biggest U.S. tech companies:
- BofA (buy, PT $425)
- Analyst Justin Post sees “elevated risk given reopening headwinds on usage, IDFA pressure, tougher comps, and regulatory concerns which could result in more cautious 2022 guidance”
- Given these issues and the stock’s recent weakness, the bar is lower
- Read more: Facebook Results Face New Scrutiny After Snap: Preview (1)
Google’s parent will report third-quarter results after the market closes on Oct. 26. The stock is by far the top performer in the group, up more than 60% in 2021. Wall Street is looking for revenue growth of nearly 40% this quarter.
- Credit Suisse (outperform, PT $3,400)
- The firm expects to see “ongoing monetization improvements in search advertising through product/AI driven updates,” along with greater-than-expected contributions from businesses like YouTube and Google Cloud
- Bloomberg Intelligence: Alphabet Still Aided by Robust Ad, Cloud Spending
- Read also: Google to Slash Fee It Takes From App Subscriptions in Half (2)
The software giant also reports its first-quarter results after the market closes on Oct. 26. The stock is up almost 40% this year despite a recent period of weakness related to rising bond yields. Analysts expect revenue will grow nearly 20% in the quarter and for its cloud-computing business to maintain strong demand.
- Jefferies (buy, PT $375)
- The stock’s 2021 outperformance has set the bar higher, and while the company can deliver, revenue grew at a high-teens pace last year, which “will be hard to sustain”
- Year-over-year comparisons “get progressively tougher throughout FY22 which should be met by MSFT’s durable growth portfolio of Azure/Security/Teams”
- Bloomberg Intelligence: Microsoft’s Cloud, Office Sales May Remain Strong
The iPhone maker will report its fourth-quarter results on Oct. 28. Investors will be looking for clues to how the company is navigating supply-chain issues and component shortages that could threaten holiday sales. While the stock has been resilient, Apple’s 12% gain this year lags the 20% advance in the S&P 500.
- Citi (buy)
- Expects strong iPhone sales, but component shortages are a limiting factor
- Regulatory uncertainty is an overhang; implications of the App Store ruling remain “a wild card and to some extent overplayed”
- Bloomberg Intelligence: Supply-Chain Woes a Major Focus of Apple Earnings
The e-commerce and cloud-computing giant will report third-quarter results on Oct. 28 as well. Investors want to know how the company is navigating supply-chain challenges and labor shortages. Last quarter, revenue missed expectations for the first time since 2018, and the company warned of the waning pandemic-related tailwind for online retail. Revenue is expected to grow a little more than 16%, the slowest pace since 2015. The stock is up less than 3% this year.
- Baird (outperform, PT $4,000)
- There are concerns “over supply chain bottlenecks and the ability for retailers to meet consumer demand”
- “While we still expect consensus operating margin expectations to prove a bit too optimistic near-term, we feel more comfortable with [gross merchandise volume]/revenue expectations”
- Bloomberg Intelligence: Amazon’s Slowing Online Sales Offset by AWS Strength
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