TMT: Hot Politics, Slumping Devices, Online Shopping, and a Weaker Dollar

sagawa

YTD TMT performance has been driven by the old guard – names like IBM, ORCL, HPQ, INTC, CMCSA, CBS, T and VZ are all up double digits. Meanwhile, FANGs and their ilk (FB excepted) have largely underperformed. What lies ahead for 1Q16 earnings season? Key things to watch for: 1. The unusually contentious political arena is driving campaign spending and big ratings – cable news (FOXA, TWX) and mobile (FB, GOOGL, TWTR) will be the biggest beneficiaries. 2. Incremental data points on smartphone and PC demand have been discouraging – OEMs (AAPL, Samsung, HPQ) and suppliers (QCOM, AVGO, SWKS, GLW) could be at risk. 3. Weak Q1 retail numbers do not seem to apply to AMZN, but sales expectations are high and margins are anyone’s guess. 4. The shift to the cloud continues – good for AMZN, MSFT, GOOGL, CRM, WDAY and others. The good times for old guard tech may be coming to an end. 5. TMUS will add customers, VZ and T will lose them, pay TV will lose customers too. 6. FX could help vs. expectations for a change – this benefits most, save for telecom/media, with components suppliers (QCOM, INTC, GLW, etc.) particularly happy.

  • Will ’16 be more like ’14 or ’15? 2015 was the year of the FANGs. 2014 was dominated by AAPL, but also saw a major rally by traditional tech names. So far, 2016 has shaped up to be a 2014 rerun with a flight to “value”, but we think the resemblance will be short lived. 1Q16 earnings could deliver a jolt of reality into the retro rally.
  • US ad spending will be strong. We believe presidential campaigns and their supporting PACs added $300M to the 1Q16 ad market directly, with ~80% going to TV. The raucous political environment has also driven a huge upside in news viewership, with Fox News leading ALL cable channels in primetime and CNN ratings up triple digits. This should yield upside for FOXA and TWX. While the campaign activities disproportionately favor TV, digital ad platforms – in particular, FB, GOOGL and TWTR – will also benefit, with core advertisers continuing to shift toward mobile.
  • Device demand is poor. Gartner lowered its 2016 PC forecasts after reporting a larger than expected decline in Q1. Nikkei reports that AAPL has cut orders for iPhone manufacturing for 2Q in the wake of poor demand for high end smartphones. Our work (http://www.ssrllc.com/publication/smartphones-mobile-maturity/) shows 2015 high end devices nearing saturation and replacement rates at historic highs. Asian suppliers, such as TSM, report weakness in device component orders. We expect companies with exposure to smartphones and PCs to suffer for it in their 1Q16 results. AAPL, Samsung, HPQ, AVGO, SWKS, GLW, QCOM, and others may be at risk.
  • AMZN facing aggressive expectations in a tough retail environment. US retail sales figures have been disappointing YTD, throwing shade on traditional retailers. AMZN seems to have done a bit better – US same store sales through its 3rd party marketplace were up roughly 16.5% in 1Q16, slightly slowing from the 18% growth in 4Q15. Of course fast growing and profitable AWS will be a real boon, as will FX on the expanding international presence, but with consensus asking for a QoQ acceleration from 21.9% to 23.1% sales growth, and with margins anyone’s guess, there is some risk around AMZN’s quarter.
  • The cloud keeps coming. After blockbuster results in 4Q15, expect AMZN’s AWS and MSFT’s Azure to remain strong – we see 65% YoY growth for AWS and 100%+ for Azure. SaaS application players took a tumble after their 4Q15 results and guidance, but with a round of revisions behind us, 1Q16 should be back on track for stocks like DATA, NOW, and others, while players like CRM and WDAY, which delivered strong numbers amidst the sector tumult, should show sustained momentum. We see no reason, other than FX, for the traditional IT players to diverge from their downward sales trajectory, and 4Q15 “beats” by shrinking companies on the wrong side of the generational paradigm shift on cost cutting or overly pessimistic estimates should not be giving investors any confidence.
  • Sub losses for everyone but TMUS. We believe that TMUS’ Binge On free video streaming initiative is resonating with consumers, yielding further share gains against VZ, T and S. T is expected to be the biggest loser – we believe the DirecTV triple play strategy is tired. VZ may have weathered 1Q16 with only modest attrition, but the wireline strike and heightened attention to the company’s sclerotic customer service will hurt going forward. S may have stanched most of its sub bleeding with promotions, but the brand has suffered badly. We see sub losses as well for pay TV – cord cutting may be amplified by improving streaming and the aforementioned Binge On, with the seasonally worst 2Q just ahead.
  • The dollar is weakening. After an 18-month run, the US dollar has fallen back a bit in 1Q16 – a respite for export-heavy tech companies that have labored into the FX headwind. Component companies, like INTC, QCOM, TXN and GLW, make the large majority of their sales overseas, and could, as a result deliver 1Q16 upside as a result. Other companies with more than 50% exposure include PCLN (80%), AAPL (65%), MSFT (54%), GOOGL (54%) and FB (53%). In contrast, telecom carriers (VZ, T, TMUS, and S), pay TV MSOs (CMCSA, CHTR, DISH, etc.), and US media companies (DIS, CBS, FOXA, TWX, etc.) have very low FX exposure, and will not be effected.
  • Our picks for earning season. While we have serious existential concerns for linear TV in the long run, the politically fueled ad market makes it tempting to buy FOXA or TWX for a trade – we would want to be well clear before the hangover hits at year end. For longer term investors, mobile ad leaders FB, GOOGL and TWTR are better bets. We continue to support enterprise cloud leaders – MSFT, WDAY, ADBE, NOW and DATA are all in our model portfolio, and, we believe, particularly attractive in the wake of the February sector bloodletting. An upside surprise from TMUS on Binge On driven sub growth also seems a likely possibility. While we are modestly concerned for AMZN’s 1Q16 results, we are confident in its strength through the end of the year and beyond.
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