On earnings at Apple, Samsung and Amazon

Amazon, Apple, and Samsung, three of the biggest names in the technology space, have reported this week. In all three cases, there were gaps in the earnings reports and the earnings outlooks. For me, however, Samsung’s report  was the best and Apple’s was the worst. And this is meaningful for investors in US markets.

Usually I like to do a serious numbers crunch, but this time I am going to refrain because you can get that sort of analysis elsewhere. Where I can add value is on framing where this is headed and I wanted to start with Apple. The earnings were ahead of expectations but the numbers were lower than last year. In fact, profits were 18% lower than last year. As I predicted early in the year, then, earnings are contracting at Apple now. The question is whether they will continue to contract and if so why and what happens to the stock.

I believe Apple’s earnings will continue to contract and that this is not bullish for the stock. However, I want to remind you of the bullish case for Apple. Basically, the bullish case rests on a low multiple valuation. Bulls are saying that Apple has a low multiple now. I have heard people compare the forward multiple to the multiple you might get on a boring utility company when Apple is a high-octane, technology company that presumably has high growth.  The bulls expect the next round of product releases to help Apple resume its upward growth trajectory and they believe this will help multiples expand. Once the growth trajectory resumes, you add in the brand premium that keeps margins and retail investor interest high, the momentum that comes from the need for portfolio managers to own Apple, and the dividend investors who should now pile in, then you have a compelling case. But at heart, all of this rests on growth. I agree that it is bullish that Apple is kicking the dividend up a notch. Excess cash on the balance sheet is wealth destruction. But that’s a side issue. If there’s no growth in earnings, the stock will not appreciate.

Growth is where Apple runs into trouble. Look at the latest numbers from IDC and Strategy Analytics.

Apple’s market share fell to 18% from 23% in the same period a year earlier, whereas Samsung Electronics Co. captured its highest-ever share of 33% from 29%, Strategy Analytics said. Samsung’s smartphone shipment grew 56% to a record 69.4 million units; Apple’s grew 7% to 37.4 million units, its slowest-ever year-on-year rate, the researcher said.

That’s a seriously bad sign. Apple also gave poor guidance that suggest more earnings declines in the next quarter. You have to believe that the next iteration of Apple products will reverse this trend or that Apple derives more revenue elsewhere, like the tablet market for example. But let’s remember that Apple has yet to shorten its product cycle and the big releases are not coming until the fall according to what CEO Tim Cook said in the earnings call this week. That means we have five months for Apple’s competitors to take share. And I believe they will take share.

Samsung, Apple’s biggest competitor in the mobile arena released earnings too. And the earnings showed huge handset sales volume growth. Not only did Samsung beat out Apple as the world’s biggest handset maker in 2012, it also has its flagship product coming out this weekend. Clearly, then Samsung will have a better quarter in terms of market share this quarter than the past quarter.

And Samsung has what I would call a ‘supermarket strategy’ which most consumer goods companies use. They inundate their sales channels with different versions of the same product and sell into multiple channels within the same market such that when we go to the supermarket what we see is a wide array of product choice. However, if you read the manufacturer labels, you quickly realize that only 4 or 5 companies are supplying the lion’s share of product. Samsung has replicated this approach in the handset market and is now targeting every price point in every market available while Apple is only working within the premium sales channel. I believe this dichotomy works in Samsung’s favour as it induces margin erosion at Apple if Apple wants to move down market and increases margins at Samsung if Samsung can take share up market.

Amazon is a completely different animal. It is by history a retail company. But because it is an Internet-based company, it has morphed into a data company and branched out into web services in a major way. What I believe we are seeing with Amazon is a strategic shift away from retail toward data. And what this means is that Amazon will use its retail core to encroach into every data space available in the Internet, from proprietary retail purchasing data to third party retail data via its third-party merchant business and Internet database companies (Alexa, imdb, etc) to digital retail data to data storage. Basically, Amazon wants to be an all-encompassing soup to nuts data company. And the way it is attempting to do this is by amassing an enormous low-margin retail presence that allows it to amass an even larger data business.

Now clearly there are privacy concerns here as there are with Google, Amazon’s closest competitor in the data business. But the interesting bit for investors is how this means Amazon’s margins may increase over time as its sales mix becomes more geared to data and less to retail. The Amazon strategy is intriguing, especially given how little profit the company makes, due to its heavy re-investment strategy. Ostensibly, once Amazon stops re-investing so much, as it did after the Internet bubble popped in 2001, it would reap massive profits. And this is the reason the stock price is sky high. But this is an article of faith amongst Amazon’s investors, that the re-investment can be shut down or dramatically lowered. If this re-investment turns out to be more maintenance capex than growth capex, you have a serious problem. However, you look at it though, Amazon is probably the biggest source of deflation and price competition right across the Internet. I believe they are driving prices down throughout retail, not just books, CDs or DVDs. They are driving prices down in cloud storage, in internet web hosting, in mobile tablets and soon they will be driving prices down in set top boxes, television programming, and mobile handsets. The company’s reach is breathtaking.

Below are the recent technology-related links. Enjoy.

Amazon’s success formula: move bits instead of boxes | Reuters

“The company reported slowing revenue growth and offered a disappointing outlook for this quarter on Thursday, exacerbating uncertainty about the health of its business beyond the United States.
But that may be masking a fundamental shift in its business on home turf. The Internet retail giant that once specialized in moving books and other physical items quickly is increasingly trying to do the same in the digital world, where profit margins are higher, partly because e-books, music and video files and are transmitted electronically at high speed.
Throw in a fast-expanding third-party merchant business, where Amazon simply books a cut of sales from seller listings on its website, and the retail giant’s margin outlook is looking a lot better.”

IDC: Apple’s iPhone sheds marketshare as smartphones out-ship feature phones for first time

“The biggest year-over-year change in smartphone shipments came from third-place vendor LG, which saw a 110.2 percent boost, from 4.9 million to 10.3 million units. The company’s marketshare is still relatively small, however, with only 4.8 percent of the sector.
Rounding out the top five smartphone vendors was Huawei and ZTE, which saw shipments of 9.9 million and 9.1 million units accounting for 4.6. and 4.2 percent of the market, respectively. “

Apple’s Smartphone Market Share Falls – WSJ.com

“Apple Inc.’s iPhone saw its share of the global smartphone market decline in the January-March quarter, as its shipment grew at the lowest rate in its history, research firm Strategy Analytics said in its quarterly industry report.
Apple’s market share fell to 18% from 23% in the same period a year earlier, whereas Samsung Electronics Co. captured its highest-ever share of 33% from 29%, Strategy Analytics said. Samsung’s smartphone shipment grew 56% to a record 69.4 million units; Apple’s grew 7% to 37.4 million units, its slowest-ever year-on-year rate, the researcher said.”

Samsung Electronics profit jumps ahead of Galaxy S4 debut | Reuters

“Samsung is widely expected to resume posting record quarterly profits, after a hiatus in January-March, as the S4 is dispatched to 327 mobile carriers in 155 countries.
This week, Samsung has kicked off a massive advertising campaign for the S4 and set up mini stores at Best Buy locations to promote the smartphone. Initial orders have surprised on the upside, with the firm expecting a short-term supply crunch.
Early success of the S4 is crucial in determining the extent of the expected second-quarter record earnings for a company that gets more than 70 percent of its overall profit from mobile devices.”

BBC News – Samsung Electronics profits boosted by smartphone sales

“It made a net profit of 7.15tn won ($6.4bn; £4.2bn) during the period, up from 5.05tn won a year ago. Profits also rose from the previous quarter.
The Korean firm’s results are in sharp contrast with rival Apple, which this week reported a drop in quarterly profits for the first time in a decade.
Samsung displaced Apple as the world’s biggest smartphone maker last year.”

Microsoft Raises Nearly $3 Billion in Bond Sales – WSJ.com

It’s interesting that Microsoft has a AAA rating and Apple only AA+. Why?
“The software giant sold $1.95 billion in the U.S. market, the company’s fifth U.S. bond deal since 2009, when it sold its first debt, according to data provider Dealogic. The company also shopped debt in the euro market for the first time, seeking to raise €550 million ($715 million) with a 20-year maturity.
“It allows more investors across Europe to participate in a triple-A-rated offering,” Pete Wootton, a spokesman for Microsoft, said in a statement. “The pricing/coupon in Europe is very attractive in this 20-year tenor. Overall, the debt is opportunistic and helps us lower the overall cost of capital—similar to what we have done in the U.S.”
Pricing on the U.S. portion also suggests a good deal for Microsoft: The company got the lowest yields of the year for five-year corporate debt, according to S&P Capital IQ LCD. In November, Microsoft achieved the lowest-ever borrowing cost for five-year corporate debt, netting a yield of 0.993%, S&P Capital IQ LCD said.”

Amazon Profit Falls as Spending Continues – WSJ.com

“The Seattle-based Internet giant posted a 22% rise in revenue for the first quarter, a slower pace than a year earlier. Net income for the first quarter fell 37%, and operating profit margin remained stubbornly thin, a reflection of heavy spending on content acquisition for the company’s streaming video business, the buildout of new distribution centers and the continued development of devices, like its Kindle Fire tablet.
Amazon upped its spending by 22% to $15.89 billion. In particular, Amazon funneled cash into its technology and content efforts, as well as costs for order fulfillment. The company has been erecting new distribution centers near urban centers, which is widely believed to help expand its Prime membership program, as well as same-day delivery.”

If Amazon Web Services is a sideline, it sure is a big one — Tech News and Analysis

“Some folks still say that Amazon Web Services is a distraction for the Amazon retail juggernaut, but it’s hard to argue that it’s small potatoes given the growing size of that cloud infrastructure business.
For its first fiscal quarter ending March 31, Amazon netted a healthy $750 million in the “other” category of North America sales, up 64 percent from $458 million for the year-ago period. Amazon always cautions that this category also includes “marketing and promotional activities and co-branded credit card agreements.” But I would wager the bulk of that $750 million comes from the aforementioned AWS.”

T-Mobile Settles Claim With Washington State AG – Ina Fried – Mobile – AllThingsD

“T-Mobile has settled allegations by Washington state that marketing of its new plans didn’t adequately disclose the limits to its new contract-free plans.
In particular, the state’s attorney general took issue with the fact that T-Mobile forces those financing their phones to either continue service with the carrier until the device is paid for or to pay the full remaining cost of the phone when they want to cancel.
“Consumers who cancel their wireless service face an unanticipated balloon payment for the phone equipment — in some cases higher than termination fees for other wireless carriers depending on how early they cancel,” the Washington attorney general’s office said in a statement.”

BlackBerry stock falls after report Z10 production being scaled back | Investing | Financial Post

“The company may have cut 4 million to 6 million units, Brian Blair, a Wedge Partners analyst, said today in a note, without saying where he got the information. The shares erased gains of as much as 3.3% and were down around 0.5% at $14.82 in late-afternoon trading in New York”

Vodafone rejects Verizon’s $100bn buyout offer | Business | The Guardian

“The $100bn (£66bn) that Verizon is reportedly willing to spend on buying out Vodafone from the two companies’ joint venture US mobile network has been dismissed as “nowhere close” to the amount demanded by shareholders.
US cable business Verizon Communications is considering a half cash, half shares offer for Vodafone’s 45% stake in Verizon Wireless, America’s biggest mobile operator, according to Reuters. The US firm has reportedly hired legal and banking advisers to lead the deal.
“Valuation will need to climb much higher to create an outcome acceptable to Vodafone shareholders,” Jefferies bank analyst Jerry Dellis said, who values the stake at $120bn. “Our sense is that Verizon is attempting to up pressure on Vodafone to engage in discussions. The glaring issue is price – $100bn is nowhere close to the level at which Vodafone can consider a deal.”
One anonymous top-40 Vodafone investor said there was “absolutely no way” shareholders would accept the mooted price, but that $135bn would suffice.”

Google search proves to be new word in stock market prediction – FT.com

“Searches of financial terms on Google can be used to predict the direction of the stock market, according to an analysis of search engine behaviour stretching back nearly a decade.
The research, by UK and US academics, is the latest attempt to mine online behaviour patterns for clues about future movements in financial markets.
The findings appeared to show that people do more searches on terms such as “stocks”, “portfolio” and “economics” when they are worried about the state of the markets, said Tobias Preis, associate professor of behavioural science and finance at Warwick Business School.”

LG promises smartphone with flexible OLED display this year | The Verge

“In a call discussing the company’s recent financial results, LG announced it will introduce a smartphone with a flexible OLED screen in the fourth quarter of this year. The company’s vice president of mobile Yoon Bu-hyun said his division was working closely with LG Display to bring a phone to consumers. It’s unlikely that we’ll see a flexible smartphone — the battery and circuitry should prevent that — but we could see a device with a wraparound display, something like Samsung’s prototype from CES.”

Survey: Amazon app developers not big fans of Kindle hardware — Tech News and Analysis

“Developers who make apps for Amazon do so because it’s convenient, not because they believe Kindle Fire hardware is great or they’re widely anticipating it overtaking Android or iOS someday.”

The future’s out there: but we can’t see over the paywall | Media | The Observer

“Newspapers have the will to survive: what they need now is much better data about what makes money online”

Takeaways from paidContent Live: Paywalls, sponsored content and massive disruption — paidContent

“The world of media is being disrupted at an even faster rate than ever, it seems — both the content side and the advertising side — and our paidContent Live conference in New York on Wednesday was full of fascinating viewpoints and analysis from some of the writers, publishers, startups and investors who are playing key roles in that disruption. From the book industry to news and journalism to cable television, business models are being exploded by new entrants and new technologies, and while that causes destruction in some parts of the media industry, it also creates opportunity as well.”

How paywalls are evolving | Felix Salmon

“Talking to Mather and MediaPass, it’s clear that their idea of “best practice” doesn’t rely much on meters at all. They have the numbers, remember: they know what kind of walls are best at maximizing revenues, and what kind of walls just end up turning readers away. And crucially, one of the biggest lessons they’ve learned is that it’s a mistake — at least from a purely financial perspective — to treat all readers equally. Some readers have a much greater propensity to pay than others; ideally, you want to extract a lot of money from those readers, while also allowing the vast majority of your visitors — the ones who will never pay you anything — to still consume your content and view the associated ads.”