Yes, tech does rhyme with wreck. And yes, April's almost over, we are supposed to sell in May and go away.
So should we combine those two and sell all tech before May and go away and then maybe never come back?
That's the prevailing alliterative wisdom, but before we just decide to abandon tech as any part of our portfolio -- not unlike how oil was abandoned in January and the banks in February or the biotechs in March (go check, that was wholesale abandonment, and a bottom, for all three) -- perhaps we ought to break it down. Makes sense: unlike oil or banking, tech is not as susceptible to one rubric and isn't as tied together as the pundits think.
Let's tick down what cars are involved in the tech collision: Microsoft (MSFT), Action Alerts PLUS portfolio holdings Alphabet (GOOGL), Twitter (TWTR) and Apple (AAPL), and like Trump called himself last night, the presumptive wreck: Facebook (FB). Of course we don't know if it is going to be a wreck, but tech stocks trade like homogenized milk right now so who is going to disagree with the designation?
So, one at a time. Microsoft is involved in a difficult transition that surfaced in a positive way this time last year, when the stock was at $42. Satya Nadella set out to make the company more than just a personal computer company with a hammerlock on a lot of corporate business and X-box kicker into a company that's about managing the cloud. It makes sense. The cloud is something that's still growing like, mad as companies and people abandon on-premise solutions.
We had been giving Microsoft a low multiple -- it stood at about 12x when the transition started --and, while there was an initial disbelief in the theory of Microsoft as more than just a humdrum grower, Nadella started pulling it off. Microsoft went from being faux cloud to the real thing with a real multiple.
For the next two quarters that growth continued and next thing you know Microsoft's getting a premium multiple. Sure, it's not getting a salesforce.com (CRM) multiple of 75. But it did reach the twenties.
Sadly, the growth this quarter for the cloud just wasn't that great. It wasn't so fabulous for the plain old Microsoft, either. So the question is: was the slowdown in the rate of growth of the cloud a definitive one? And is Microsoft going to now go back to its old humdrum multiple? Or is it just a glitch?
I don't know. I don't even know if the company knows. I say that only because the conference call was so downbeat that I can't be sure. Suffice it to say, if that were to happen Microsoft has another 10 points to fall. I think it is unlikely, because at that point you would get some nice dividend protection. The stock trades like it is trying to stabilize, but there are no easy answers until we see the next quarter, as we can't expect the old business lines, so tied to the personal computer which is sinking so fast, to save it from the gravity multiple pull.
Alphabet? I don't know. I am really split here on this one. The market's really struggling about what to pay for its growth as well as its sheer size and market cap, a problem that plagues Apple, too.
What do you do about a company that's growing quickly but not quickly enough and is spending more money than it should, but wants to have a long-term approach where it isn't beaten by others? Do you just give it a market multiple? Doesn't it deserve slightly more than that?
Believe it or not, that's exactly what you are getting right now, slightly more than a market multiple. Frankly, that seems absurd to me. Had they cut back spending just a tad or had some of the Other Bets started showing some real revenue pick-up, that would be another story. However, this is not a no-growth story. It's a higher growth story, and it should be accorded some PE respect. That's why I think that if this stock drops to the $600s where it will be valued like a regular, any old stock, you need to buy it.
Remember, I am not ex-ing out the bountiful cash position. I am simply saying that a company with solid growth, no debt and a multi-year path toward greater profitability should not sell at 18x earnings, which is what would take it down 10%, the fear that most want to get out in front of before it is realized. That's what's going to grip Facebook all day, too. But that's a matter for another column.
My take on Alphabet? The issues can be solved and will be addressed. I think this was more of a one-off disappointing quarter than a wreck.
Twitter's so tough. On the surface there seemed to be a lot to like: a pick-up in users, positive cash flow. Yeah, Twitter's one of those companies where the reported numbers are a lot rosier than they seem. The losses aren't as bad as they were. But one line in the release destroyed the whole story: "revenue came in at the low end of our guidance because brand marketers did not increase spending as quickly as expected in the first quarter."
The company did have $99 million in free cash flow. It does have $3.6 billion in the bank. It did have 310 million users, up from 305 million last quarter.
But how do you value a company that takes down numbers because the dogs -- the big advertisers -- won't eat it even if the company claims the selling proposition gives them a terrific return on investment? The actual earnings per share don't mean anything, because they are chimerical.
Perhaps you put a multiple on that cash flow, with a slight growth to it. So let's say it has $500 million in free cash flow. Let's add that to the $3.7 billion it has in cash. You are talking about a company that's valued at about $6 billion after that, with a modicum of growth and some bigger advertising prospects down the road. But you are also talking about a company with zero credibility because, frankly, they are telling you on the call that the return on investment is great for advertisers, but at the same time telling you that the brand markets aren't embracing it as it should be.
Maybe Twitter's just a subpar way to advertise, with a moat that's partially being eroded by Facebook live that also seems to have list peoples' fascination. No wonder this thing's so difficult to pin down. Is it worth more to others than itself? Could be. But that would mean that it has to come down further first, simply because it isn't getting the customers it needs.
How about this: it's growing faster than a print media company, but slower than an internet company or a traditional television company. Put the lowest multiple possible on that cash flow, lower than television but better than a newspaper and you get about $5 billion. You add back in the cash and the cash flow and you get a stock that's worth about $9 billion, which is still below where it will open up. Makes sense, given the lack of reputational gravitas that these people have.
Finally there is Apple, which, of course, is the toughest of all. I am beginning to believe that we are viewing Apple all wrong. Lots of people are questioning its credibility and its ability to grow, despite protestations to the contrary. I believe them. There is a new launch of a big iPhone coming up in the fall and it wasn't even discussed on the quarterly conference call, that's how beleaguered everyone is about this company.
What I think happened is that Apple was on steroids, but wasn't conscious of it. The growth in China last year turned out to be totally unsustainable and that really masked a rather ho-hum performance. When China slowed and Hong Kong fell off a cliff, you ended up with a former growth company with a lot of cash and a decent dividend.
Yes, it has a growing service stream, but not growing fast enough, even as it will be valued someday as the Apple ecosystem touches, say, 1.5 billion, more than 500 million currently. But the bottom line is the dividend is too small, the buyback not as helpful, the product gap too big and the inability to come to terms with the slowdown citing macro reasons not holding enough water.
It's gone from being a cyclical that's levered to the economic cycle to one that's levered to both an economic and product cycle. It's too cheap to sell, not cheap enough to buy. Call it a hold until the street totally turns on it and we are closer to a product launch that could plug the gaping hole of the next two quarters.
Here's the bottom line: tech's got issues, but each has its own issues. It's not a monolith: Alphabet can recover this quarter, Twitter, if the NFL succeeds, can recover possibly in the fourth quarter but not if brand advertisers don't like it, Microsoft needs to re-accelerate the cloud. It should buy salesforce.com.
And Apple? It has to find another invention and get the service revenue stream to where it can be valued as a growth driver. Until then, it's neither here nor there, where you're almost, but not yet, being paid to wait for the next big thing.