All eyes are on Big Tech companies and their earnings
Google, Apple, Microsoft, Facebook, and Amazon report second quarter earnings this week and are likely to announce record or near-record profitability and earnings growth rates. It might be easy to dismiss this as a one-off quarter because of the challenging second quarter in 2020 and the acceleration of all things digital during the pandemic. But what’s stunning is that these megacap behemoths that account for $6.7 trillion of market cap have been reporting stellar earnings growth for years, with quarterly revenue growth averaging over 20% since 2011. This growth rate might be expected for younger, quickly accelerating businesses but for large, established businesses, it’s extraordinary.
What’s behind Big Tech’s growth – and can it continue?
The rising adoption of cloud, e-commerce, and digital advertising is behind the robust growth of Big Tech, and much of this growth is still ahead. Worldwide spending on public cloud services is forecast to grow 18.4% in 2021,1 and e-commerce penetration is expected to reach 19.5% globally in 2021 and 21.8% by 2024, up from 18% in 2020 (and 13.6% in 2019).2 Digital ad spending, which represented 58.2% of total media ad spending in 2020, is set to increase by 20.4% in 2021.3
Clearly, the runway for future adoption of these technologies remains long, especially in parts of the emerging markets. But for other, newer technologies like artificial intelligence (AI), digital healthcare, autonomous future (in mobility, delivery, and more), and climate tech, the runway is even longer. Big tech companies are deploying capital and investing in these technologies to future-proof their ability to drive robust earnings growth for years to come.
If you think the recently announced Carlyle Group’s latest targeted fund raise of $27 billion – the industry’s largest ever4 – is a big deal, just think about how far $500 billion of big tech cash could go. Indeed, big tech investments hit a record in 2020 as these companies put their cash to work. They are on pace for another record year in 2021 with 36 investments made to date (through Q1), compared to 38 for all of 2020.5 Here are some areas of focus and (mostly) private companies within them that have attracted big tech investments:
- Healthcare: During the pandemic, Google’s DeepMind artificial intelligence algorithm made a huge leap forward in using AI to determine the 3D shapes of proteins amid the tech giant’s bid to expand its reach in healthcare. The company also backed conversational AI and mental health companion Wysa and AI-powered precision oncology company Tempus. As data growth in healthcare is outpacing data growth in all other sectors, applying AI to make sense of it, well … makes a lot of sense.
- Autonomous and carbon-free mobility: In June 2020, Amazon acquired self-driving vehicle developer Zoox for $1.3 billion. The company also backed Infinium, a maker of net zero carbon fuels, and made follow-on investments into all-electric truck and SUV maker Rivian as well as UK-based online food delivery platform Deliveroo.
- Climate tech: Microsoft recently led a corporate minority funding round to carbon capture firm Climeworks and backed carbon removal company CarbonCure Technologies’ Series E funding round. Carbon capture and sequestration is a technology with significant potential – IEA estimates that carbon capture will account for nearly 15% of the cumulative reduction in emissions by 2070.6
Investing to maintain earnings growth power
It’s not a surprise that, to maintain their ability to deliver impressive earnings growth and avoid being disrupted, big tech companies are keenly focusing on investing for the future – either organically or through acquisitions and investments. The five big tech companies are projected to grow at an average two-year EPS CAGR of 21%. When adjusted for this growth, valuations for some of these tech names (on a PEG ratio basis) are cheaper than the S&P 500. Additionally, given recent acquisitions and investments, the true growth potential of big tech is likely underappreciated and should become more evident in earnings as these newer businesses scale up.
Big tech has been a pandemic trade, but given the investments described above, we believe it’s much more than that. Investing in these companies is effectively buying optionality on the future widespread adoption of new technologies like AI, digital health, autonomous mobility, and climate tech, while benefitting from strong existing cash flow today.
Investing in – and alongside – big tech
Public market investors may want to consider sticking with their big tech positions given this cash flow visibility and continued attractive earnings potential. For private market participants, investing alongside big tech companies in their areas of interest should provide exposure to long-term growth opportunities. Not only are the valuations more attractive in private markets, but the opportunity set is much broader – with the majority of companies that could be the next Square in Fintech, Moderna in Biotech, and Tesla in clean energy/electric cars still privately held. This is why big tech is looking for investments in private markets, and so would we.
(1) Source: Gartner, November 17, 2020.
(2) Source: eMarketer, Dec 2020.
(3) Source: eMarketer, April 29, 2021.
(4) Source: Bloomberg, July 22, 2021.
(5) Source: CB Insights, The Big Tech Report, July 2021.
(6) Source: IEA, Special Report on Carbon Capture Utilization and Storage, 2020
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