No. of Recommendations: 6
tecmo asks
Profits have risen faster than sales recently. Do you think this trend will continue? If so, what will be the primary driver? If not what are the implications for equity valuations?
These are all great questions. Your observation that profits have risen faster than sales is spot on. Let's review the earnings forecasts and growth drivers of the 4 largest US corporations.
Microsoft
Microsoft's year-over-year sales and earnings growth during the last quarter (fiscal Q1 2024, which ended September 30, 2023) were:
Sales:
12.76% increase: Revenue for the quarter ending September 30, 2023 was $56.517 billion, a 12.76% increase from the same quarter in 2022.
24% growth in Microsoft Cloud: This segment, which includes Azure, Office 365, and other cloud services, saw even stronger growth at 24% year-over-year (23% in constant currency).
Earnings:
38% increase in non-GAAP diluted EPS: Microsoft's non-GAAP diluted earnings per share (EPS) were $2.35, a 38% increase from $1.70 in the same quarter of the previous year.
Microsoft also provided a forecast for its fiscal second quarter of 2024 (ending December 31, 2023):
Revenue:
$60.4 billion to $61.4 billion: This represents a range of 15% to 16% growth year-over-year.
So Microsoft said its YoY sales growth will accelerate from 12.8% last Q to 15% this Q. Analysts see the primary drivers of this growth being 1) continued momentum in Azure and 2) Microsoft 365 Copilot, an AI-powered assistant within Office 365, which is seen as a game-changer for productivity software. Analysts believe its potential to boost user efficiency and create new revenue streams is substantial.
As far as valuation, Peter Lynch used the PEG ratio for growth stocks. MSFT has a forward P/E of 33, and it's EPS growth is 38%, giving it a PEG ratio = 33/38 which is below 1.0. The stock would be considered undervalued according to this ratio.
Apple
From the latest earnings call...
Sales:
Slight decline of 1%: Their total revenue reached $89.5 billion, falling just short of the previous year's figure.
Notable variations by product: While iPhone sales grew modestly by 2%, the wearables category and Greater China sales (including Hong Kong and Taiwan) experienced declines.
Earnings:
Positive growth of 13%: Net income reached $22.96 billion, exceeding the previous year's $20.72 billion. This translates to $1.46 earnings per diluted share, compared to $1.29 in the previous year.
Apple, unlike Microsoft, doesn't traditionally provide specific guidance for future sales and earnings during its earnings calls.
Overall tone:
Tim Cook, CEO of Apple, expressed positive sentiment about the company's future, highlighting strong momentum in several key areas like wearables and services.
He emphasized their commitment to innovation and their confidence in their product pipeline.
Growth areas:
Cook specifically mentioned wearables as a category with "very strong double-digit year-over-year growth" and significant potential for further expansion.
Services segment, including App Store, Apple Music, and iCloud, was also highlighted as a major driver of future growth.
Continued focus on emerging markets like India and Southeast Asia was mentioned as another potential avenue for expansion.
While exact numbers for future sales and earnings weren't provided, the overall tone and specific areas of focus suggest confidence in continued growth, particularly in wearables and services.
Analysts generally project moderate revenue growth for Apple in the coming quarters, ranging from 2-5%.
However, uncertainties remain regarding factors like global economic conditions and potential product delays due to supply chain issues.
It's difficult to value a company that does not provide sales or earnings forecasts. On the surface, its PEG ratio of 2.3 makes this stock look expensive. If you are a Warren Buffett fan, though, note that in the latest 13F filing by Berkshire Hathaway, shares in Apple have remained constant (none sold) in the latest quarter. Berkshire holds 915 millions shares of AAPL, which is 48% of its entire equity holdings. This is a tremendous amount of conviction in the company.
Alphabet (Google)
From the latest earnings call...
Sales:
Increased by 11% year-over-year, with revenue reaching $76.693 billion. This marks the first time in four quarters that Alphabet's revenue growth was in double digits.
Earnings:
Net income grew by 46% year-over-year, reaching $19.7 billion. This translates to $1.55 earnings per diluted share, beating analyst expectations.
EPS and revenue are forecast to grow by 14.9% and 10% year over year, respectively. This gives the stock a forward P/E of 21 and a PEG ratio of 1.3.
Several key factors are seen as potential drivers for Google's revenue and earnings growth in future quarters:
Advertising resurgence:
Rebound in ad spending: After a slight dip in ad spending during 2022 due to economic uncertainties, analysts expect a resurgence in advertising budgets, benefiting Google's core revenue stream.
AI-powered ad solutions: Google's continued development of AI-powered ad targeting and optimization tools could attract more advertisers and improve click-through rates, boosting revenue.
YouTube monetization: Google's focus on monetizing YouTube through ads and subscription models like YouTube Premium could further unlock its growth potential.
Cloud computing momentum:
Google Cloud's strong performance: Google Cloud has been experiencing impressive growth, closing the gap on its larger competitors like Amazon Web Services (AWS) and Microsoft Azure. This trend is expected to continue, driving revenue and profitability.
AI advancements: Google's leadership in artificial intelligence (AI) research and development could translate into successful commercial applications like voice assistants, chatbots, and personalized search experiences, generating new revenue streams.
Amazon
From the latest earnings call...
Sales:
Increased by 13% year-over-year, reaching $143.1 billion. This was a record quarter for Amazon in terms of sales.
Key drivers: Growth was fueled by strong performance in all three segments:
North America: Sales grew 11% year-over-year to $87.9 billion.
International: Sales grew 16% year-over-year to $32.1 billion.
Amazon Web Services (AWS): Sales grew 12% year-over-year to $23.1 billion.
Earnings:
Non-GAAP EPS: Increased by 20% year-over-year to $0.94 per share. This reflects a significant improvement over the previous year's non-GAAP EPS of $0.79.
Amazon has a forward P/E of 39, so it's PEG ratio is around 2.0.
Advertising has been the fastest-growing business segment for Amazon over the past few quarters, Other revenue drivers include:
Increased customer demand
AWS revenue recovery, including new services related to AI/ML
Expansion into new markets
Diverse product offering
Increasing leverage for retail business
Cost discipline for big bets outside core businesses
I hope this helps. The next 3 largest companies are Nvidia, Mets and Tesla. I leave it to the reader to do a similar analysis as above.
