Back to Earth or Temporary Setback? Revisiting the FANGAM Stocks

Updating the Numbers

In
the eighteen months since I valued these companies, much has happened,
to the economy, to US equities collectively, and to these six companies,
in specific. In the graph below, I report on the collective market
capitalization of US equities, broken down into three groupings, the
FANGAM stocks, all other US tech companies and the rest of the US equity
market, from August 31, 2020 to February 9, 2022:

The Numbers

 
  Since I last valued the FANGAM stocks in September 2020, there have
been six quarterly earnings reports from each of these companies, and I
report on two key operating measures, revenues and operating income, in
the table below, for the last three fiscal years for each of the
companies. (Note that four of these companies have calendar year-ends,
and two have fiscal years that end mid-year. For the latter, I am
reporting on the trailing 12-month numbers, to ensure that I have the
calendar year numbers.)

The News

    The
FANGAM six, by virtue of their market capitalizations and their
presence in our daily lives, have been also among the newsworthy of
companies, and a significant portion of the news stories have are only
mildly connected to current operating numbers. If I were to summarize
the news about these companies in the last eighteen months:

• Facebook
  and Google found themselves in the midst of both the data privacy and
  political partisanship debates, as politicians and regulators argued
  about how best to restrict the social media platforms of these
  companies. Google, notwithstanding a few storms around YouTube, escaped
  relatively unscathed, but Facebook continued to draw fire from all
  directions. It is worth noting, though, that Facebook’s loss of half a
  million users in the most recent quarter may have been more attributable
  to Apple tightening privacy protections on its devices than government
  action. The most revealing news story about Facebook, though, was its
  decision to rename itself “Meta”, in late October, and  it framed the
  decision as readying itself for business in the Metaverse. I argued then
  that the name change was a reflection of management at Facebook coming
  to the conclusion that its name had become too toxic, from a business
  perspective, and I did sell my shares in the aftermath. In hindsight, of
  course, this was a fortuitous decision, since it allowed me to evade
  the post-earnings collapse in the stock price, but it was definitely
  more luck than skill.
• The big
  stories affecting Netflix were less about the company and more about its
  competitors, and one of them, in particular, Disney. During this
  two-year period, Disney doubled down on Disney Plus, its streaming
  platform, and on content production, spending more than $25 billion on
  content in 2021. Netflix continued its traditional path of spending
  immense amounts on content, with content costs reaching $17.7 billion in
  2021, but its cost of acquiring users climbed, as the US and European
  markets matured, and new subscribers in Asia and Latin America, the two
  geographical areas with the most user growth potential, delivered less
  revenues per subscriber.
• Apple and
  Microsoft, ancient companies by tech standards, continued for the most
  part to keep their heads down, and stay out of public controversies. In
  fact, Apple managed to reframe itself as a protector of privacy, putting
  itself on the right side of that debate, while also inflicting pain on
  its competitors (see Facebook above). Its new iPhone models rolled out
  smoothly and to generally positive reviews, a source of immense relief
  to a company that lives on the revenues from that product. Microsoft
  continued its long term path of consolidating its core product
  franchises (Windows and Office) and converting them to subscription
  businesses (with Office 365), while increasing its cloud business
  exposure. In the last month, the company made a splash with its announcement of the acquisition of Activision Blizzard for $68.7 billion,
  in an all-cash deal. While I am not a fan of acquisitions, especially
  big ones of publicly traded companies, there are some reasons to believe
  that this deal has a better chance than most of succeeding. First, at
  close to $70 billion, the deal looks big in absolute terms, but relative
  to Microsoft’s market cap (of $ 2.2 trillion), it is a small deal.
  Second, I have to weigh in the fact that Microsoft has not been
  trigger-happy, when it comes to deals, and Satya Nadella has not struck
  me as an ego-driven CEO, at least in his public interactions. Third, I
  think that this deal plays into a much bigger end game, for Microsoft,
  than getting market share in the conventional game platform business.
  Finally, Activision own internal troubles had led to marking down of its
  stock price in the months leading into this deal, effectively reducing
  the actual premium paid. I know that there are some who see this
  acquisition as an attempt by Microsoft to squeeze Sony and Nintendo, but
  while that may be a side-product of this deal, I think that Microsoft
  has a much bigger gaming market, in mind, with much of it online, where
  it is competing against the other social media giants (Facebook and
  Google) and online game platform companies (Roblox). 
• Of
  the six companies in the group, Amazon is most used to being targeted,
  for political and social reasons, over its entire lifetime. In addition
  to the stories about worker exploitation, with anecdotes about drivers not able to take bathroom breaks and overworked warehouse workers,
  there were questions about its competitive practices, albeit often
  planted by competitors whose only hope of stopping Amazon has become the
  government. While Jeff Bezos officially stepped down as CEO
  of the company in 2021, his status as one of the richest men in the
  world, his messy divorce and newfound standing as a globe-trotting
  celebrity all became news stories about Amazon. It is a testimonial to
  the succession team that Bezos built at Amazon that the company
  continued its march towards global dominance, notwithstanding all these
  distractions.

The FANGAM Valuations: February 2022

In
the trading game, where pricing is driven by mood and momentum,
earnings reports and news stories are scanned for incremental news,
information that ultimately will have little effect on value, but can
move prices substantially. That explains the fixation with earnings per
share expectations, and why seemingly trivial surprises, where a company
beats or falls short of earnings expectations by a few cents can cause
the market capitalization of a company to increase or decrease
significantly. If you have been reading my posts, it should come as no
surprise to you that I believe in intrinsic value, but I also believe
that intrinsic value is driven by narrative. To me, the value effect of
earnings reports and news stories comes from how they change (or don’t change) the core narratives
for companies. In keeping with that belief, I revisited my narratives
for the FANGAM stocks, with the intent of revising these narratives,
based upon what we have learned about these companies in the last two
years:

Converting these stories into numbers, I revalued the six companies. You can download the full valuations by clicking here (Facebook, Amazon, Netflix, Google, Apple, Microsoft), but the summary of my key assumptions and valuations are below:

(Download full valuations of Facebook, Amazon, Netflix, Google, Apple, Microsoft)

At
the risk of repeating some of what I have said before, here is what the
valuations tell me about these companies, as investments.

1. Facebook looks the most under valued of the six companies,
   but one reason is that it seems to have lost its story script. For a
   decade whether you liked or hated the company, the story that drove its
   valuation was a simple one: a platform of billions of users, about whom
   Facebook knew a great deal, and they then used that knowledge to deliver
   focused advertising. In short, this is a company that has built its
   business on accessing and using private data, and the privacy backlash
   seems to have finally led the company to try to redefine itself, first
   by renaming itself (Meta), and then muddying the waters about its
   business model. I think that the company is still a profit-generating
   behemoth, with some of the highest operating margins in American
   business, but I think that until it finds a cohesive story line, the
   price recovery will be stilted.
2. Netflix is the most overvalued company in the mix,
   even after its major price knock down, after the last earnings report.
   The company has upended the entertainment business and made everyone
   else in the business play the game their way, but it has always been on a
   hamster wheel, where its primary sales pitch to investors is its
   capacity to keep growing its subscriber base, and the only way it can
   keep doing this is by spending ever-increasing amounts of money of new
   content. The question of how the company would get off this hamster
   wheel has always been there, and now that user numbers are starting to
   slow, and new users are becoming more costly to acquire, the challenge
   of doing so has become larger. 
3. Microsoft and Apple have kept
   their heads low, as the rest of the FANGAM stocks have been buffeted by
   controversy and blowback. Apple seems to have found a way to be one of
   the good guys in the privacy battle, and in the process, intentionally
   or not, it has helped deliver punishment to others (like Facebook) in
   this rarefied group. For Microsoft, buying Activision advances them
   further towards becoming a premier platform business, and the company’s
   diverse platforms (Office 365, LinkedIn and now Activision) offer the
   potential for growth and sustained high margins.
4. Google
   surprised me the most, delivering high growth and increased margins,
   suggesting that Facebook’s problems are its own, and that Google
   continues to steamroll its online advertising competition. The other
   bets at Google continue to be cash-draining investments that deliver
   little in value, and after six years, I am not sure that they will be
   ever be big value creators, but that search box is the gift that keeps
   on giving.
5. Amazon has, for much of its life, been a Field of
   Dreams company, offering investors a promise of revenues now, and if
   they wait patiently, profits in the future. For the first decades of its
   existence, all that investors saw was revenue growth, but margins
   remained slim to non-existent. In the last five years, Amazon’s margins
   have climbed and the company is solidifying its profit pathway, and
   while regulators and governments will try to rein it in, its mix of
   businesses and geographies will make it difficult to legislate against.

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