Quick Thoughts: The End of 4Q TMT Earnings – What did We Learn?

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SEE LAST PAGE OF THIS REPORT Paul Sagawa / Tejas Raut Dessai

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February 18, 2020

Quick Thoughts: The End of 4Q TMT Earnings – What did We Learn?

  • After a busy 3 weeks, 4Q TMT are mostly in – there are a few offset fiscal year big company reports coming, but none this week. Last week, CSCO got hit on a decidedly meh quarter amidst Coronavirus fears. A day later model portfolio constituents NVDA and AYX both posted big beats and raised guidance, powered by the enterprise cloud transition.
  • AAPL just announced that it would not be able to meet its guidance for the March quarter due to the impact of the coronavirus epidemic on Chinese demand and to the disruption to its chain of production. This should not have been too surprising. Management will give a further update in April, and we expect to hear that the impact to production could affect sales for the rest of the fiscal year, potentially even delaying the delivery of new models expected for September.
  • CSCO’s core business is shrinking, as large enterprises shift their spending to the cloud, where CSCO has a much weaker position. Still, there are also businesses with real growth potential – security, hybrid cloud, 5G (potential supplier to DISH), and others. The story is a bit like IBM – the bad businesses have to shrink enough to let the growth businesses drive the top line.
  • NVDA crushed vs. consensus both top and bottom lines. Datacenter sales (up 42%!) were the big driver, beating consensus by more than 30%. Looking forward, NVDA will have easy compares for a couple quarters (from the channel inventory glut of 2019) and likely continued strength in datacenter vs. expectations that remain curiously muted.
  • AYX revenues accelerated to 75% growth YoY, obliterating consensus (and its own guidance) which expected sales 20% lower. Management guidance is a bit above the 2Q20 consensus at the midline on both sales and profit, but we are a bit skeptical of sandbagging given this quarter’s epic beat. Look for another one next quarter.
  • Federal Court Judge Victor Marrero rejected the anti-trust case brought by 13 state AGs seeking to block the proposed TMUS/S merger. The deal is now expected to close as soon as April 1 and will vault the combined carrier to the pole position for US 5G. We wrote about this (5G:Why TMUS Will Win).
  • Final takeaways: The enterprise exodus to the cloud is moving faster than analysts were willing to commit to in their estimates. SaaS, hosting, hyperscale datacenter capex – the numbers were impressive almost across the board. Meanwhile, uncertainty about the coronavirus in general and China in particular continues to weigh heavily in investors’ minds. We had been concerned about smartphone growth expectations at the start of the quarter- we are even more concerned now.

Last week saw the last of the TMT companies operating on a fiscal schedule in line with normal calendar quarters report, along with a few early birds with quarters ending in January. Cisco reported on Wednesday and delivered a meh quarter, coming close on sales and earnings but expressing caution for the quarter ahead. We are biding our time on this one – it’s a bit like IBM in that the core business will decline over a very long time, but there are smaller businesses with promise. In Cisco’s case, that’s security, hybrid cloud and 5G. Few analysts may be tying Cisco to the new wireless network standard, but company has been a vocal champion for a new network architecture that leverages cloud datacenters to drive swaths of cost out of the deployment costs. Cisco is working with Japan’s Rakuten on a new network based on these concepts and is very likely to be a prime contractor to Dish Networks as it moves to build its own 5G network on spectrum purchased as part of the T-Mobile/Sprint antitrust kerfuffle. Things could get interesting for 2021.

Two days later, Nvidia embarrassed analysts with data center sales that were 30% higher than the consensus. With Google specifically calling out big spending on server components for 2020 and upside growth from nearly every cloud platform and software company that has reported, we believe some major upward revisions are in order on Nvidia. At the same time, last year’s inventory correction makes for some very easy compares coming up. Moreover, the company’s pending acquiree, Mellanox (which makes high speed hyperscale datacenter switches and interfaces, a great fit with the Nvidia GPU business) also blew out quarterly sales expectations. We see good things ahead.

The same is true for Alteryx, which accelerated its top line growth to an astonishing 75% YoY, obliterating consensus targets (and its own guidance) by more than 20%. It seems likely that next quarter’s guidance, above consensus but a sharp deceleration from this quarter, is a deliberate sandbag. With a SaaS product that helps enterprises automate data cleanup for big data analytics and AI model training, Alteryx is a great company in exactly the right place for what is going on in enterprise IT. Don’t be surprised if it gets acquired, even with the sky-high multiple. It would be a prize for many big players for whom a 50%+ premium would not be a deterrent.

The biggest news last week was the decision by Federal Court Judge Victor Marrero denying 13 state AGs (and Washington DC) their suit to block T-Mobile’s merger with Sprint on antitrust grounds. We wrote about it the day it was issued (Quick Thoughts: TMUS/S – Finally!) and wrote about T-Mobile’s extraordinary advantages in 5G presuming completion of the merger (5G:Why TMUS Will Win) back in August. We are buyers of TMUS and DISH here.

Finally, Apple issued a terse press release preannouncing that it would not deliver 2QFY20 sales in line with the guidance issued three weeks ago. Given the progression of the coronavirus epidemic in China, this should not be surprising to investors – Apple stores throughout the country remain closed, as do many of its production facilities. With no sign that conditions are easing in China, we expect Apple’s quarterly update due in April to be somber. It seems likely that supplies of most smartphone brands, including iPhones will be badly constrained by quarantines in China and that demand in one of the biggest global markets will be severely depressed. These impacts could easily stretch into 2H20 and could even delay the launch of the much touted 5G iPhone 12. We believe that investors should avoid all stocks predominantly dependent on smartphone sales until the trajectory of the disease is far more certain.

Our big take-aways for this earnings season:

  1. The enterprise move to the cloud is moving at pace. The opportunities for cloud hosts (AWS, Microsoft Azure, Google GCP), hybrid cloud facilitators (IBM, VMW, NTNX), SaaS Application leaders (MSFT, ADBE, CRM, WDAY, NOW, ZEN, AYX, and others) are bigger than the market assumes and the growth is far more sustainable than embedded in expectations. We see continued upside.
  2. Coronavirus is scary. Companies that need Chinese consumers to buy or Chinese factories to make their products are at great risk. In the TMT space that is Smartphones and all of the components that go into them. We were already bearish on the category, which consumers 25% of all semiconductors by value, and this is one more reason to move to the sidelines. 5G will drive a reacceleration of device replacement … NEXT YEAR! Wait until then.
  3. Streaming is rapidly taking the audience from linear TV. Netflix is much healthier than some analysts thought. Digital advertising is also healthier than some analysts thought. Meanwhile, Disney has a coronavirus problem too.
  4. 5G deployment has slowed down due to some combination of waiting for the decision on TMUS/S and the hardball being played by the US State Department over the security risks for allied countries allowing Huawei equipment into carrier networks. The completion of TMUS/S this quarter should spark a big ramp in US spending, but the global market could remain depressed, particularly given the potential of a pandemic.


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