Tech Stock Thoughts #6: Tech M&A, IBM, Costco, ASML, Microsoft
Tech M&A Isn’t Letting Up
Particularly among software firms and chip/component suppliers.
Sources: Citrix Systems, Lumentum
- Citrix is spending $2.25B in cash to buy Wrike, a project management SaaS firm, from PE firm Vista Equity. Lumentum is spending more than $5B in cash and stock to buy Coherent, a provider of lasers used in (among other things) industrial/electronics manufacturing systems, defense/aerospace systems and scientific and medical equipment. Wrike competes with the likes of Asana, Smartsheet and Microsoft; Coherent’s publicly-traded rivals include IPG Photonics and MKS Instruments.
- Citrix is paying 12 times the midpoint of Wrike’s 2021 ARR guidance range ($180M-$190M), while Lumentum is paying close to 30 times Coherent’s fiscal 2022 (ends in Sep. 2022) EPS consensus.
- The Wrike deal, together with recent all-cash deals by PE firms to buy RealPage and Pluralsight, says a lot about how much corporate/institutional enthusiasm there is for owning growing SaaS franchises even at a time when multiples are generally stretched. That of course doesn’t mean it’s wise for investors to start paying 40x forward EV/sales for a SaaS name growing around 30%, but it is something to keep in mind when eying names whose valuations haven’t ballooned to outlandish levels.
- The Coherent deal, meanwhile, is another example of a chip/component supplier taking advantage of an elevated stock price to ink a high-multiple deal that potentially has a lot of strategic value — see also Nvidia/ARM, AMD/Xilinx and Marvell/Inphi. Given how much chip stocks have rallied since November, it definitely wouldn’t be shocking to see more such deals arrive.
IBM’s Earnings: More of the Same
Revenue declines, FCF pressure and new “structural actions.”
Sources: IBM (earnings release, earnings slides), Unhedged (CC transcript)
- Though IBM’s C-suite decision-making is arguably getting better, its lower-level execution looks as shaky as ever for the moment. For yet another quarter, Big Blue topped EPS estimates with the help of a low tax rate (10.4% this time around), but missed revenue estimates. All four of IBM’s reporting segments saw negative annual revenue growth, as did most of their subsegments.
- The FCF story also remains pretty messy. 2020 FCF of $10.8B was below 2019’s $11.9B, and IBM is guiding for 2021 FCF of $11B-$12B and 2022 FCF of $12B-$13B. Notably, the 2021 guidance excludes an expected ~$3B impact from “structural actions” started in Q4 (said to heavily involve IBM’s Global Technology Services unit) and transaction costs related to the planned Managed Infrastructure Services spinoff.
- IBM in some ways feels like the flip side to bullish narratives for various SaaS, IaaS and PaaS firms about how COVID is driving a dramatic rethink of corporate tech investments. If shattering the inertia that kept enterprises loyal to various on-premise-based systems, apps and platforms leads demand to inflect for many cloud software and services firms, it makes sense that the opposite would happen for sellers of said on-premise offerings.
- On-premise IT spend could improve a bit later this year as reopenings occur, and just maybe IBM starts to see some payoff from the moves it has been making following last April’s management shakeup. But between IBM’s report and the Q4 numbers that SAP recently shared, the secular headwinds for many types of on-premise spending look pretty intense right now. That’s something to keep in mind as the likes of HPE and Oracle report in the coming months.
What to Make of Cruise and Rivian’s Latest Funding Rounds
There’s still a lot of faith in autonomous driving, and still a lot of cash pouring into EV makers.
Sources: Cruise, Rivian, Bloomberg
- Cruise, a self-driving firm majority-owned by GM, was valued at $30B in a $2B funding round that included (among others) GM, Honda and Microsoft. Rivian, an electric truck/SUV developer, was valued at a reported $27.6B in a $2.65B funding round led by T. Rowe Price and including several other investment firms, as well as existing investor Amazon.
- Notably, Cruise’s new valuation is $11B above the one it got in a 2019 funding round, and also (perhaps not coincidentally) on par with the one that Waymo reportedly obtained in a March funding round. Likewise, Rivian’s valuation appears to be well above the one it got in a mid-2020 funding round also led by T. Rowe Price (back then, it was reported to be seeking funds at an $8B+ pre-money valuation).
- Certainly, the current state of equity markets has a lot to do with the valuations that Cruise and Rivian received. But in Cruise’s case, its valuation also says a bit about the long-term optimism that still exists for autonomous driving, as the technology heads through the trough of disillusionment portion of its hype cycle. Fully driverless cars that can be sold to consumers are still a ways away, but driverless taxi services within geofenced service areas seem to be getting closer to meaningful availability, and the same goes for driverless goods delivery. Amazon’s $1.3B+ purchase of Zoox is looking like a reasonably good deal right now.
- The other noteworthy thing about Cruise’s round is what Microsoft is getting for taking part in it: Azure will be the “preferred cloud provider” not just for Cruise, but for GM overall. Given all the ways in which Cruise and GM could use Azure’s IaaS and PaaS services (e.g., handling GM’s internal workloads, training Cruise’s self-driving systems, powering the various digital services GM and Cruise offer to consumers and businesses), Microsoft’s investment could be money well-spent regardless of how Cruise’s valuation trends in the coming years. Some echoes of Microsoft’s OpenAI investment.
- As for Rivian, the number that really stands out to me here isn’t $27.6B, but $8B. That’s the total amount of funding Rivian has now raised over its history. There’s an absolute deluge of money pouring into the EV market right now — whether via funds raised by public and private EV makers, or the large investments being made by auto incumbents. As I previously mentioned, it all brings back memories of solar during its 2007/2008 frenzy. As with the solar boom, a lot of good will eventually come out of all this EV-related spending, but that doesn’t by any means imply that the risk/reward on popular EV plays at current valuations is favorable.
Costco (Arguably) Shines a Light on the Tough Economics of Grocery Pickup
Amazon probably isn’t complaining.
- After seeing many other bricks-and-mortar retailers witness enormous curbside pickup growth in 2020, Costco is testing out a pickup service at three Albuquerque stores. However, there’s a $10 service fee attached to orders, as well as a $100 minimum.
- For comparison, Walmart and Kroger have no service fee and a $35 minimum, while Target has neither a fee nor a minimum if one uses its mobile app’s Drive Up service. Sam’s Club provides free pickup with no minimum to customers who have its $100/year Plus membership, and is also providing it “for a limited time” to those who have its $45/year Club membership.
- One could argue Costco is being too risk-averse or short-sighted here. But given the operational track record of Costco’s management, as well as my anecdotal experiences with curbside pickup services, my hunch is that Costco has a better read on the all-in costs of curbside pickup than a lot of its peers.
- CFO Richard Galanti spelled out the issue during Costco’s Dec. 10 earnings call: When you’re charging the same for a pickup order that you would for an in-store purchase, all while paying employees to fulfill, store and wheel out an order and also absorbing costs related to both the online and in-store infrastructures needed to support pickup, there’s going to be a substantial margin hit for a business (bricks-and-mortar grocery sales) that doesn’t have high margins to begin with. Quote:
One of the challenges right now is a lot of the buy online and pick up in store traditional retail promotions are the same price as what you come in and buy it for. So somebody’s paying for the picking it up and storing it and waiting for you to pick it up.
I think that will shake out too over time as people, as companies — somebody has to pay for it, either the company or the customer. I’m not trying to be cute. We’re looking at all those things. But we haven’t made any decisions to go forth with it.
- Also, in an insightful tweet thread about Costco’s approach to e-commerce, Baskin Wealth Management’s Ernest Wong brought up another issue: Far fewer impulse purchases happen while shopping on a website or mobile app than occur when shopping inside of a store. That’s the kind of thing that Costco is probably well-aware of.
- When the dust settles, I suspect Galanti and Costco will be vindicated here. The likes of Walmart, Target and Kroger might not set $10 service fees and $100 minimums for pickup orders, but their terms probably won’t be as generous long-term as they are right now. And that of course will make their pickup services a little less appealing relative to both regular e-commerce and shopping the old-fashioned way.
RealMoney Columns: Netflix and Intel’s Earnings
Links: Netflix column, Intel column, Netflix’s Q4 shareholder letter, Intel’s Q4 report
- I think Netflix’s results and guidance were good, but not spectacular, given that its strong Q4 paid net adds were accompanied by a light (though possibly conservative) Q1 outlook and its 2021 FCF guidance wasn’t that far removed from its prior guidance. But the report did dispel quite a few investor fears that had emerged — whether about the impact of competition and price hikes on net add growth, or about how FCF might look in 2021 amid elevated content spend.
- With Netflix’s stock effectively flat since July going into its Q4 report, this good news (together with current market euphoria) was enough for Netflix to skyrocket post-earnings. And with the qualifier that these companies did rally some over the last week, this in turn might be an encouraging sign for how markets could react post-earnings to solid reports from other big-cap tech names that have underperformed in recent months, such as Microsoft, Facebook and Amazon.
- Intel kicked the can both on issuing full-year guidance and detailing its 2023 manufacturing plans — the former will be shared “no later” than the Q1 report, while the latter will be shared after Pat Gelsinger officially takes over as CEO in mid-February. But reading between the lines, Gelsinger and Bob Swan appeared to be signaling that Intel will use foundries to make logic chiplets (CPU cores, GPU cores, etc.) for high-performance products within its 2023 lineup, while using Intel processes (including the delayed 7nm, which Intel says it has “streamlined and simplified”) to fab most of its other silicon.
- If that’s what Intel ultimately does, it could actually put Intel a little ahead of AMD (set to migrate to TSMC’s 5nm node next year) process-wise. But until then, competitive pressures — both from AMD and ARM CPU developers — look set to intensify. And as it is, the Q4 numbers and Q1 guidance shared for Intel’s Data Center Group suggest competition is now taking a greater toll on Xeon CPU sales.
Disclosure: Long Facebook. I took a position two weeks ago. Also considered going long Amazon, but unfortunately didn’t pull the trigger.
Elsewhere in Tech
Bloomberg on Apple’s First VR Headset — Per Mark Gurman, Apple’s headset could arrive in 2022 (this fits with prior reports) and will be a low-volume/high-cost device “that will prepare outside developers and consumers for [Apple’s] eventual, more mainstream AR glasses.” It’ll reportedly contain powerful silicon “along with displays that are much higher-resolution than those in existing VR products.”
It makes sense that Apple would be more interested in AR than VR long-term, given both Apple’s past commentary about AR and how a mass-market AR headset could leverage, complement and ultimately strengthen Apple’s iPhone franchise. At the same time, there’s no need to rush here, given current AR headset adoption levels and all the work that’s needed to improve on what current headsets can deliver in terms of display quality, battery life, developer support, etc. The Nreal Light offers a good look at what the current state-of-the-art is for consumer AR glasses — one assumes Apple wants to improve on it in a number of ways.
ASML Posts a Strong Q4 Report — Q4 results and Q1 sales guidance were both soundly above consensus, and bookings were also pretty healthy. Giant orders from foundries (TSMC especially) remain a clear tailwind for ASML and many other chip equipment names, but the company also forecast — at a time when DRAM prices have begun moving higher and memory capital-intensity remains in a long-term upward trajectory — that 2021 would be a strong year for DRAM capex. ASML’s forecast for ~20% 2021 DRAM bit supply growth is a little higher than the guidance Micron shared earlier this month.
Separately, the fact that ASML only guided for 10%+ sales growth among logic clients (even though TSMC guided for 45%-63% 2021 capex growth and Samsung is also believed to be investing heavily in its foundry/logic operations) might be a sign that Intel’s 2021 capex will be somewhat restrained. But with Intel declining to share full-year guidance on Thursday, we’ll have to wait longer to find out.
Bitcoin Takes a Tumble — After rising nearly 300% in a 3-month span, Bitcoin gave back a little over a third of those gains in less than 2 weeks, before recovering slightly. That’s naturally sparking a lot of debate about whether another 2014 or 2018-like crash is kicking off.
I won’t try to predict where Bitcoin will be a week or a month from now. But I will note that when an asset whose value is pretty much solely based on what investors perceive it to be worth twice recovers from 75%+ crashes in a 6-year span to comfortably take out its old highs, a “boy who cried wolf” mindset is bound to take hold among many of the asset’s die-hard supporters. And Bitcoin certainly has quite a few of those.
Throw in the large increase seen in Bitcoin’s institutional support since its 2017 run-up and the potential for $1,400 stimulus checks arriving soon, and I’m not sold just yet on Bitcoin seeing another massive plunge, though it might enter a digestion period for a while. Time will tell.
Disclosure: Long Bitcoin. I bought a modest amount in 2018, thinking there was a real possibility it could lose most of its value but also not wanting to be left out if Bitcoin obtained large-scale support as a store of value. I guess you could call me a FOMO buyer.
PS5 Estimated to Outsell Xbox Series X/S By Nearly 2:1 Ratio — GamingSmart estimates 4.48M PS5 units and 2.4M Xbox Series X and S units were respectively sold as of the end of 2020. Not too shocking given what past surveys signaled about gamer interest in each platform, as well as the edge Sony’s console currently has with regards to popular exclusives.
Microsoft Announces and Quickly Backtracks on Xbox Live Gold Price Hike — I suspect that — following a September price hike for the Xbox Game Pass for PC service — one of Microsoft’s goals with the Live Gold price hike was to drive more conversions to its $15/month Xbox Game Pass Ultimate service. Game Pass Ultimate bundles Game Pass (both for PCs and Xboxes) with Live Gold, the EA Play gaming service and Microsoft’s new cloud gaming service.
Though this particular attempt to strengthen Game Pass Ultimate’s relative value proposition may have been misguided, it is arguably another sign of how Microsoft sees Game Pass Ultimate as its marquee subscription gaming service going forward. The upcoming addition of Bethesda Softworks’ full game library to Game Pass will strengthen Ultimate’s sales pitch without diminishing that of other Microsoft services, as will extending cloud gaming support to PCs and (via mobile browsers) iOS devices.
Gaming Hardware Keeps Flying off the Shelves — The holiday season has come and gone, and Nvidia’s RTX 30 series GPUs, AMD’s Ryzen 5000 CPUs and Radeon RX 6000 series GPUs, and the PS5 and Xbox Series X are still generally out of stock and selling for healthy aftermarket premiums. Newegg has actually resorted to testing out a lottery system for giving customers the chance to buy scarce gaming hardware when new inventory arrives.
Nvidia, meanwhile, forecasts RTX 30 graphics card supplies will remain tight through April (Microsoft and Sony have made fairly similar forecasts for their consoles). And rumors have been floating that Nvidia plans to re-release its RTX 2060 and 2060 Super GPUs (made using TSMC’s older 12nm node, for which some spare capacity might exist) to OEMs in an attempt to ease mid-range supply constraints.
Feel free to share any thoughts or feedback you might have in the comments section.
