Tech Stock Thoughts #9: Google and Amazon’s Earnings, Amazon’s CEO Change, Interesting Reads

Alphabet/Google’s Earnings: Markets Tend to Like Improved Transparency and Financial Discipline

Google Cloud is losing a lot of money. But that means core Google is even more profitable than previously believed.

Sources: Alphabet (earnings release), Unhedged (CC transcript)

• Back in 2016, Alphabet’s stock jumped after the company broke out the giant losses of its Other Bets segment from the rest of its operations, which were of course shown to be highly profitable. On Tuesday, the company broke out the big losses that have been produced by its Google Cloud segment, and markets seem to be equally pleased with this latest transparency improvement.
• Google Cloud — it covers both the Google Cloud Platform (GCP) and Google Workspace/G Suite subscriptions produced a $1.24B Q4 operating loss on revenue of $3.83B (+47% Y/Y). For the whole of 2020, Google Cloud lost $5.61B on revenue of $13.06B.

Alphabet’s revenue and operating income by segment. Google Services is a little different from the other two.

• By contrast, Alphabet’s Google Services segment (it covers everything besides Google Cloud and Other Bets) produced a $19.07B op. profit in Q4 on revenue of $52.87B. Throw in $1.04B of unallocated corporate expenses, and Google Services’ op. profit is still north of $18B and 15% above Alphabet’s company-wide op. profit.
• In other words, Alphabet’s P/E would be markedly lower if Google Cloud and Other Bets weren’t around. And if one feels (as I think most do) that Google Cloud and Other Bets still have considerable positive value in spite of the big losses they’re currently producing, that makes Alphabet’s sum-of-the-parts value meaningfully above what might seem a fair P/E-based valuation (one could also make a similar argument about Facebook vis a vis Messenger, WhatsApp and Oculus, but that’s a story for another day).
• In spite of the aforementioned Google Cloud and Other Bets losses, Alphabet topped its GAAP EPS consensus by more than 40%. It definitely helped that — during a very strong Q4 for online ad spend — ex-TAC revenue topped consensus by 7%. But the fact that Alphabet (long known for its heavy-spending ways) saw GAAP opex actually drop 4% Y/Y was also a major factor. COVID-related travel and office expense savings helped out, as did favorable comps. But so did, clearly, CFO Ruth Porat’s efforts to rein in spending, at least for more mature Alphabet businesses.

A number of Google businesses saw strong double-digit growth in Q4.

• The Q4 top-line performance of Alphabet businesses largely speaks for itself. But I would note that YouTube ad growth, which accelerated to 46% from Q3’s 31%, was particularly impressive. This strength, which Alphabet indicated had a lot to do with both soaring direct response ad sales and rebounding brand ad demand, is a fresh sign that 2021 is shaping up to be a huge year for online video ad spend, as video budgets shift more strongly to online channels (that’s also naturally good for firms such as Roku, The Trade Desk and Magnite).
• On the flip side, the Google Cloud losses (while further driving home the immense profitability of Alphabet’s ad businesses) are a little worrisome, particularly given that AWS currently has a 30% op. margin and a large percentage of Google Cloud revenue still appears to come from Google Workspace (a relatively mature SaaS business). That said, it looks like this has much to do with Porat and CEO Sundar Pichai giving Google Cloud chief Thomas Kurian a blank check for now as GCP tries to gain ground against AWS and Azure. And with Porat saying that GCP’s growth rate was “meaningfully above” Google Cloud’s total growth of 47%, some progress is being made here.
• Alphabet might just be the U.S. tech giant least vulnerable to major consumer spending shifts caused by vaccines/reopenings (it’s either them or Microsoft). While certain Alphabet businesses (e-commerce/CPG ad sales, hardware sales) could get hit if such shifts happen, others (Google Cloud, brand ads, search ad verticals such as healthcare and software) should hold up well, and others still (travel ads, local business ads) are likely to see demand improve.

Amazon’s Earnings and CEO Change: Reasons for Cautious Optimism

Amazon will see major changes this year, in more ways than one. But it’s hardly time to panic.

Sources: Amazon (earnings release, earnings slides), Unhedged (CC transcript)

• It’s hard to complain about the numbers in Amazon’s Q4 report: Q4 sales and EPS comfortably topped estimates and (though it has been guiding conservatively lately) Amazon issued Q1 sales guidance that was $4.2B-$10.2B above consensus. Revenue growth accelerated to 44% from Q3’s 37%, and Amazon’s possibly-low Q1 guidance implies 33% to 40% growth.
• Even after accounting for the push-out of Prime Day from Q3 to Q4 and COVID’s impact on e-commerce spend, Amazon’s numbers drive home why arguments that it has lost significant ground to smaller e-commerce players and bricks-and-mortar rivals during the pandemic feel highly debatable — particularly when one considers how curbside pickup sales (typically counted in the e-commerce numbers of bricks-and-mortar firms) are a very different animal than delivery-based e-commerce.
• Of course, all of this is being overshadowed by the news that Jeff Bezos will step down as CEO in Q3 — while remaining chairman — and be succeeded by AWS CEO Andy Jassy. While this does add some uncertainty to Amazon’s story, I’m cautiously optimistic that it won’t badly rock the boat, for a few reasons:

1. As CFO Brian Olsavsky noted on Amazon’s call, Bezos will still be involved in making high-level strategic decisions.
2. Though known to be a highly demanding boss, Bezos doesn’t have a reputation for micromanaging Amazon businesses, at least not in recent years. And Amazon is generally known for having a highly decentralized corporate culture that pushes execs and product managers to take ownership of a particular domain.
3. Jassy, who has been running AWS since it was launched in 2006 and has been at Amazon since 1997, is a pretty impressive operational exec in his own right. One only has to look at everything AWS announces each year at its re:Invent conference to see why.

• Also, one generally can’t be the CEO of a major enterprise tech company without being good at sales, and Jassy is no exception to the rule. And given all the media and regulatory scrutiny that Amazon’s consumer-facing businesses are now seeing, it could be useful at this juncture to have a CEO who’s also a good salesman.
• Some of the things that pop out in the Q4 report:

1. Amazon’s International segment, which going into 2020 was growing much slower than its North America segment, saw revenue grow 57% in dollars and 50% in constant currency. North America, for its part, clocked in at 40%, with growth a little higher if one backs out a drop in Whole Foods physical retail sales.
2. The “Other” segment (largely ad sales) saw growth accelerate to 66% from Q3’s 51%. It looks like Amazon’s 2020 ad sales topped $20B or came close.
3. Though Amazon recorded ~$4B worth of COVID-related expenses in Q4, spent more than $18B on capex (the lion’s share of it on warehouse/logistics investments) and saw opex growth meaningfully accelerate relative to Q3, GAAP op. income rose 77% Y/Y to $6.9B and trailing 12-month free cash flow rose by $3.5B Q/Q to $21.4B. That bodes well for how earnings and FCF will trend as COVID-related costs diminish and investment growth cools.

Amazon’s e-commerce revenue streams all saw 40%+ Y/Y growth in Q4.

• With Microsoft’s Azure growth having improved to 50% last quarter from the September quarter’s 48%, Amazon’s 28% AWS growth (slightly below consensus) was a little disappointing. But with AWS backlog up 68% Y/Y in Q4 to $50B, it wouldn’t surprise me if growth re-accelerates in 2021, particularly as spending picks up among firms in COVID-impacted industries.
• Amazon’s e-commerce growth rates will inevitably cool starting in Q2, as comps get tougher and vaccines/reopenings quite possibly lead physical retail foot traffic and travel/hospitality spending to start rebounding. But there are clearly going to be long-term effects from the inflections Amazon has seen in both order volumes and Prime adoption/usage since March, not to mention from the giant investments made in its fulfillment/logistics infrastructure as it dealt with this demand surge. Amazon disclosed on its call that it now delivers more than half of its own packages globally, and the long-term value of the assets and operational expertise needed to do that cost-efficiently while delivering many of those packages in just a day or two still might not be fully appreciated.

RealMoney Column: Reopening Plays Deserve a Closer Look With Vaccine Progress and Other Events

• The main arguments: Recent COVID and vaccine-related data is encouraging; vaccine passports/credentials could make it easier to restart various recreational activities/events that have been shut down or severely restricted; and between currently-elevated personal savings rates and the likely arrival of more stimulus, there could easily be a surge in consumer spending during the back half of 2021.
• Not all reopening plays are worth a look, of course (I’m definitely not a fan of GameStop and AMC right now). But I think tech names such as Groupon, Yelp, Eventbrite and Lyft are likely to do well if/when spending on travel, dining and live events spikes, as will many non-tech travel/hospitality firms operating in industries with limited supply. Given how many restaurant closures there have been over the last 12 months, restaurant capacity might just be for the second half of 2021 what chip manufacturing capacity is for the first half.

Interesting Reads

Some articles and reports that I recently read which might be of interest of others following tech.

A16Z: It’s Not About Video. It’s About Always-on Triage — A thoughtful piece about how a combo of telemedicine and remote patient monitoring/data analysis could be used in the coming years to more proactively detect and diagnose medical issues, as well as determine the right approach to treatment. A case study in how COVID has been driving a rethink in how customer/user relationships can be handled in a number of fields (likely a positive for CRM and collaboration app sales). Also, as the market for in-home medical devices swells, there should be quite a few opportunities for suppliers of MCUs, wireless chips, sensors, etc.

ExtremeTech: Intel’s Desktop TDPs No Longer Useful to Predict CPU Power Consumption — A deep dive into how (unlike AMD’s desktop CPUs) the real-life power consumption of Intel desktop CPUs often significantly exceeds their stated TDPs under load. This problem, which has its roots in how Intel needs to dial up power consumption to keep its desktop CPUs reasonably competitive with AMD’s CPUs while continuing to rely on its age-old 14nm node, looks set to continue with Intel’s soon-to-launch Rocket Lake desktop CPU line.

ARK Invest’s Big Ideas 2021 report — ARK is talking its book and (regardless of the source) 5–10 year projections for dynamic tech markets should always be taken with a couple grains of salt. But with those qualifiers in mind, growth tech investors should take a look at this. Quite a few interesting stats and arguments regarding semis, AR/VR, gaming, EVs, 3D printing, and digital payments, among other things.

TechTarget: Cloud, security top list of IT spending priorities — Data from an IT spending survey done by a TechTarget unit. Along with cloud apps and services, security was a clear standout, with 47% of respondents saying that security is a business issue that drives tech spending (up from 40% a year earlier).

Fierce Wireless: J.D. Power finds only 4% of consumers willing to switch networks for 5G — In addition, only 5% of polled U.S. customers said they’d be willing to pay more for 5G service. You could argue that 5G’s financial value diminishes as you go up the stack: For now, it’s a huge positive for modem and RF chip suppliers, a moderate positive for smartphone OEMs, a slight positive for app developers, and (with incremental service revenue offset by higher capex) neutral to modestly negative for mobile carriers.

Okta’s 2021 Businesses at Work report — Okta uses aggregate sign-on data to track usage for popular apps on its platform. Amazon Business, DocuSign, Snowflake, Atlassian apps and of course Zoom all saw considerable usage growth in 2020. Security apps from Palo Alto Networks, Fortinet, Zscaler and VMware’s Carbon Black also saw decent growth. But interestingly, the average number of apps per customer remained at 88, after growing by 5 in 2019 and 6 in 2018. Just maybe a sign that enterprises are getting a little more selective about new SaaS app deployments, even as certain apps still see considerable growth. (For those interested, Muji/HHHypergrowth took an in-depth look at Okta’s data.)

The apps seeing the highest customer growth on Okta’s platform in 2020.

WSJ: Augmented Reality Gets Pandemic Boost — Among other things, this piece looks at how L’Oreal factory workers and technicians at Mercedes-Benz dealerships have used HoloLens headsets for remote assistance/training. Like Google Glass’ corporate deployments, this piece is a reminder of how AR continues gaining meaningful enterprise traction…even if a mass-market for consumer AR headsets probably remains a couple to a few years away.

Disclosure: Long Facebook, Groupon and Fortinet