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Will the recession spill over into BigTech?

Autor: Financial Market
Timp de citit: 6 minute

The recession, although still timidly, is beginning to knock louder and louder at Wall Street’s gates. More high-profile growth companies are beginning to show disappointing results.

In the case of Netflix, more than 1 million people worldwide stopped paying their subscriptions between April and June. Snap’s stock saw a devastating drop of nearly 40% after releasing results that were „barely” in line with expectations.

Are we in for an investment déjà vu in the US BigTech industry, as we know it from the „wild” boom on gaming companies shares? Or is there a chance, however, that BigTech blue chips with business models hardened in the fires of more than one recession are able to resist – at least for now – the impact of worsening economic data?

Will the financial results of Silicon Valley’s flagship companies add fuel to the fire, increasing recessionary fears, or will they improve the mood of Wall Street, which has been losing since the beginning of the year?

We’ll find out this week, with markets holding their breath in anticipation of quarterly reports from tech giants Alphabet, Apple, Amazon, Microsoft and Meta Platforms. Investors are worried that the economic downturn will affect BigTech, in which the market has seen the winner of the last decade.

Alphabet (GOOGL.US) – results 26.07 after the session

Alphabet will report Q2 2022 results today after the session. The market expects revenue growth, but this may not translate into rising profits as a result of declining margins.

However, there are some concerns that Alphabet may disappoint with results. Alphabet, like Snap, is dependent on advertising revenue, so the question is whether Snap’s dismal performance was an event specific to that particular company, or rather a herald of a broader trend. Alphabet also recently announced that it would slow down hiring, which raises additional concerns about the company’s growth prospects.

On the other hand, ad revenue from search engine services is more stable than ad revenue from social media like Snap, so the recession may not affect Alphabet as much. In short, investors’ attention will be focused on ad revenue, which is expected to slow down, as well as the company’s outlook for the coming quarters.

Microsoft (MSFT.US) – results 26.07 after the session

The company’s shares, like Apple’s, have shown limited volatility since the beginning of the year doing slightly better than the S&P500 index. Wall Street has lowered expectations for Microsoft, expecting the biggest slowdown in revenue growth in years this quarter.

Still, investors don’t expect a bump and forecast continued growth in demand for the company’s services and products, even in a recessionary environment. Analysts still expect double-digit revenue growth for the company this year and next year, which will be challenging in view of record inflation.

The company may struggle in the long run to repeat results driven by a pandemic technological transformation and record scale of additions. Investors will be closely anticipating revenues from the fast-growing Azure cloud (25% of the global cloud market), providing impressive margins.

Despite a growing market for cloud services, fueled by the remote work trend and the post-pandemic technology transformation that is not slowing down, Azure must compete with Amazon’s platform, Alphabet and smaller companies which could effectively limit its reach. In addition, Microsoft is facing antitrust lawsuits over its cloud services, in Europe, which could limit the company’s growth.

In addition, the strong dollar is limiting earnings prospects – the company does more than 50% of its business outside the US. Analysts expect the company’s revenue of $52.4 billion and earnings per share of $2.3, along with $12.8 billion in cloud services revenue.

Meta Platforms (META.US) – results 27.07 after the session

Shares of Meta Platforms have fallen more than 50% this year. Investor sentiment suffered during Friday’s session amid disappointing Snap Inc. results, which cast a shadow over the company’s „whimsical” ad-based business model.

The model works well in times of economic growth. During a recession, however, when companies cut spending and consumption slows, it can become a real crutch and reduce revenues.

This is not the only such „crutch” that Meta Platforms is currently dragging its feet behind. The company is engaged in the expensive technological development of ‘Metaverse’ virtual worlds, which CEO Mark Zuckerberg has repeatedly pasted over, signaling the transformation through a marketing name change.

Meta Platforms is investing billions of dollars in the development of VR and AR technologies and the Oculus platform, which it acquired in 2014.

The company’s ambitions may be viewed positively by investors who believe in the potential of the Metaverse, but the huge costs of unprofitable research and building facilities around Sci-Fi-like technology at a time of rising costs of capital are clearly weighing on investors.

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So is the very strong dollar, which is likely to take its toll on profitability. In the near term, Meta Platforms faces challenges in the form of monetizing the Metaverse trend it is building and building an advertising model that bypasses iOS (Apple) privacy blockers, which have effectively cooled appetite and revenue forecasts.

Meanwhile, analysts have lowered expectations around Meta Platforms’ results almost accepting the disappointment to come. Will Meta repeat the Netflix scenario and beat the lowered forecasts of a panicked Wall Street? Due to its recognition and broader advertiser base, the company may nevertheless „survive” the recession better than the aforementioned Snap.

Analysts expect $30.7 billion in revenue and EPS of $2.61 on cost reductions to $87/92 billion versus earlier forecasts of $90/95 billion.

Amazon (AMZN.US) – results 28.07 after the session

Amazon will report its Q2 2022 results on Thursday after the close of trading. As expected by the market, they may be at historically bad levels. The company is known for reporting at least minimal revenue growth in every quarter since going public, which is 25 years.

Revenue growth (top-line) has been below 10% in only three of the 101 quarters to date. The first was when the Internet bubble burst in 2001. The next two were Q4’21 and Q1’22.

It’s been said that „up to three times a piece,” but there are many indications that Q2’22 may be the worst ever. Analysts have lowered their profit and revenue forecasts for this quarter and next, as well as for all of 2023.

Amazon had previously forecast revenue for the quarter at between $116 billion and $121 billion, an increase of between 3% and 7%.

That forecast includes a projected 2 percent impact from unfavorable exchange rates – an estimate that is almost certainly too low, given the dollar’s continued appreciation against European and Asian currencies over the past few months.

The current stock market consensus forecasts revenue of $119.1 billion and EPS of 14 cents. For Q3 2022, analyst consensus forecasts revenue of $127 billion and EPS of 33 cents.

Apple (AAPL.US) – results 28.07 after the session

The specter of a global recession has recently taken its toll on the mood of U.S. company boards, which are increasingly signaling the need for changes within the business.

This is no different for Apple (AAPL.US), which last week announced a slowdown in hiring and budget reductions in some of its divisions. The media coverage of these announcements also took on a life of its own because the company has long been relatively immune to changes in external factors.

According to analysts’ forecasts, quarterly results will show a sharp decline in sales, and thus an estimated $8 billion gap in the company’s revenue.

The factors creating such a strong loss are ongoing problems in supply chains and continued restrictions in the Chinese market. Consensus calls for revenue of $82 billion and EPS of $1.16. Apple expects gross margins of 41.5% – 42.5%.

Predictions from key banks vary widely. Analysts at JP Morgan and UBS are relatively positive on the results. Morgan Stanley, on the other hand, points to supply chain pressures that could negatively impact this quarter’s earnings.

Summary

Although shares of technology giants have been in a downtrend this year, it is difficult to compare Meta Platforms’ nearly 60% drop in value to Apple’s nearly 15% correction.

Therefore, it should be noted that interim results, as was the case in the first quarter of this year, may have mixed results. Cost reductions and job slowdowns have become the new norm among BigTech companies, which may signal that the sector as a whole is expecting a painful slowdown.

Quarterly reports will show whether ‘bulletproof’ companies can still pass on rising costs to consumers and enjoy rising demand for services. It is worth noting, however, that Wall Street has exorbitant expectations around the revenue growth of most BigTech companies which could prove to be a real test for the big part of the US economy.

The upcoming results could set the next path for U.S. indices and shed more light on the validity of recessionary fears. However, it may turn out that, as was the case with gaming companies, results in line with market expectations are already far too little for investors.

With the courtesy of XTB Research Department