GOOG, MSFT & AMZN – Three for three.

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Three strong earnings reports but for very different reasons.

  • Microsoft, Alphabet and Amazon all saw strong after-hours performance following their results but for very different reasons.

Alphabet

  • Alphabet reported good results as traffic growth from mobile and YouTube were somewhat stronger than expected.
  • However, it was the promise of better fiscal discipline, transparency and a $5bn share buyback that underpinned the after-hours rally in the shares.
  • Q3 15A revenues ex-TAC / adj. EPS was $15.1bn / $7.35 just ahead of consensus at $15.0bn / $7.24 and RFM at $14.5bn / $7.43.
  • The good news really came as Google outlined its intentions for its disclosure from Q4 15E under its new Alphabet holding structure.
  • Alphabet has committed to disclosing revenue, profitability and capex for both the core business (Google) and a single unit referred to as Other Bets.
  • Other Bets is all of the other businesses such as Access, Energy, Google X, Driverless cars, Nest, Life Sciences, Ventures and so on.
  • This is much better disclosure than I had been expecting and the hope is now that the core Google business will prove to be much more profitable than investors have previously given it credit for.
  • That being said, it is the profitability of Alphabet that determines what the shares are worth and in that regard, not much has changed.
  • I still remain concerned with Google’s ability to control Android and with that, grow its revenues from this platform long-term.
  • I think that Android remains central to Google’s revenue growth in the medium term and there was nothing in these numbers that calmed my fears.
  • The shares have had an excellent run and I am more actively looking for a better opportunity.

Microsoft

  • Microsoft reported good fiscal Q1 16A results as Azure and Office 365 more than offset the weakness from the PC market.
  • This was augmented by solid guidance for fiscal Q2 16E despite the ongoing headwinds coming from the strong US$.
  • Q1 16A revenues / Adj. EPS were $21.7bn / $0.67 compared to consensus at $21.0bn / $0.57 and RFM at $21.3bn / $0.66.
  • Guidance for fiscal Q2 16E was good with revenues / implied EBIT expected at $24.8bn-$25.4bn / $7.0bn compared to consensus at $25.1bn / $6.9bn and RFM at $25.8bn / $7.6bn.
  • Windows OEM licensing declined less than expected and declines in on premise Office revenue was more than offset by Office 365.
  • Cloud based revenues continue to be very strong but backing out Azure, shows that the revenue run rate is about $400m per quarter.
  • This is less than I have previously forecast and much less than the $2.1bn reported by Amazon this quarter (see below).
  • However, it is worth noting that a very large number of Amazon’s customers run Microsoft systems in their clouds and I do not believe that the Amazon figure excludes licence revenues that it has to pass back to Microsoft.
  • Microsoft will not be booking these figures in cloud but in enterprise licences.
  • These results continue to give me confidence that Microsoft is executing very well on its primary mission to deal with the legacy issues of Windows license revenues and on premise sales of Office software.
  • The strategy around the Digital Life and Digital Work ecosystems (missions 2 and 3) and putting them both together in a seamless, easy to use and fun way is still badly defined.
  • Hence I remain uncertain as to whether Microsoft will succeed with its other missions (see here).
  • Fortunately, success in the ecosystem is not required to still see upside in the shares which I think can can easily reach $60.
  • Microsoft remains one of my top choices.

Amazon

  • Amazon reported strong Q3 15A results underpinned by a surprise profit and the promise to generate profits in Q4 15E.
  • Q4 15E is a quarter when Amazon has typically slipped back into losses as it drives for market share during the holiday shopping season.
  • Q3 15A revenues / EPS were $25.4bn / $0.17 compared to consensus at $24.9bn / LOSS $0.13.
  • Once again it was North America that really drove the results with 3.5% operating margin reported.
  • This was materially enhanced by Amazon Web Services which reported revenues of $2.1bn up 78% YoY and EBIT of $525m.
  • OPEX did not grow as quickly as many had feared due to the greater discipline that now surrounds how Amazon makes its investments.
  • Amazon was badly stung by the disaster of the Fire phone and it has tempered its expectations in hardware accordingly.
  • Guidance was fair with revenues / EBIT of $33.5bn – $36.8bn / $0.08bn – $1.28bn compared to consensus at $35.1bn / $1.2bn but it was the hope that losses are now really a thing of the past that really drove the shares upwards.
  • Amazon has made a habit of slipping in and out of losses and of wasting larger amounts of money on badly thought out experiments in consumer electronics.
  • If this can now reliably be put to bed, then the shares are likely to have a much steadier time of it going forward.
  • However, I continue to have issues with the valuation as at $616 the shares are trading at 112.0x 2015E PER and 72.0x 2016E PER.
  • This is already pricing in a lot of profit and margin that has not yet materialised.
  • Amazon has been doing the right things to improve its financial performance but its long term strategy around the consumer ecosystem is still very shaky.
  • There are plenty of other companies with growth, much better profitability trading at a fraction of the valuation.
  • Microsoft, Samsung, Facebook and Apple all fit this bill comfortably.

 

 

RICHARD WINDSOR

Richard is founder, owner of research company, Radio Free Mobile. He has 16 years of experience working in sell side equity research. During his 11 year tenure at Nomura Securities, he focused on the equity coverage of the Global Technology sector.