Why Microsoft’s Warning Could be Good News
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Just a few months ago, being a tech company meant something very specific and brought a certain cachet to most market watchers.
After riding the ebbs and flows of the Great Recession, weathering the pandemic and finding itself more popular than ever as bored users on lockdown binged its products, tech was riding high.
That was particularly true for the FAANG companies — Facebook (now Meta (FB) – Get Meta Platforms Inc. Class A Report), Amazon (AMZN) – Get Amazon.com, Inc. Report, Apple (AAPL) – Get Apple Inc. Report, Netflix (NFLX) – Get Netflix, Inc. Report and Google (now Alphabet (GOOGL) – Get Alphabet Inc. Class A Report) — which seemed at one point to be almost bullet-proof in a market whipsawed by volatility and subject to the whims of skittish investors and anxious institutional players.
Now, however, those same companies are facing a reckoning.
Battered by a series of disappointing earnings, fleeing users and missed forecasts, the mighty fortress of FAANG has fallen upon tough times.
These are times so tough that even Mark Zuckerberg, chief executive and founder of Facebook, has had to pull back on some of his favorite products like the Metaverse.
He’s done that in in order to focus on things most tech companies used to scoff at, things once considered crazy in Silicon Valley like the actual bottom line and the old fashioned concept of profitability.
Some experts said on June 2 that at least one big tech bellwether, Microsoft, is finally getting it right.
Trim Those Forecasts, Fellas
The idea that Microsoft is a cutting edge leader of anything in tech is in itself both ironic and a little alarming.
The usually staid, office and enterprise-oriented company is best known for its conservative approach to market news and a toe-the-the-line management style.
Still, if you wait long enough almost everything comes back into style, and for now, being staid and conservative about the future of your company and what it may earn or lose is very in fashion.
Microsoft harnessed that trend on June 2 when it trimmed its forecasts for its fourth-quarter results.
The company has about 50% of its overall business abroad, and it said that a strong dollar is likely to erode some of its profits over time.
“Software companies including Microsoft have significant operations outside the U.S. and I think Microsoft is being prudent here to get ahead of (market) expectations and be transparent around curre
ncy impacts,” Steve Koenig, managing director at SMBC Nikko Securities, told Reuters.
How is This Good News?
Normally, a company projecting lower earnings so far ahead of time would be met with distress and anxiety by traders and investors alike.
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But tech’s recent wobbling has cast a new light on the industry’s ability to thrive.
For the first quarter of 2022:
— Facebook offered a disappointing forecast by projecting second-quarter revenue of $28 billion to $30 billion, versus the $30.74 billion Wall Street projected;
–Amazon whiffed on revenue, posting $67.09 million short of estimates;
— Google skidded on advertising revenue projections and posted earnings of $24.62 a share, below the $25.94 forecast;
— And even Apple stumbled on $83.4 billion in revenue, below expectations of $84.85 billion.
So What Now?
After all of those unwelcome surprises, investors are very interested in knowing exactly what they can expect.
The answers for why are two-fold.
Firstly, when all the major tech companies brought in disappointing results after years of nothing but stellar production, the market didn’t like it.
“The tech-heavy Nasdaq 100 index closed Monday’s trading down more than 26% year-to-date, and the Dow Jones U.S. tech sector has also shed more than 26%,” CNBC reports.
That has lead to a tech rout that is still licking its wounds in some sectors, as naysayers continue to assert that tech stocks are vastly overvalued.
“Clearly there is a question of what should the exact market value be of some of these models, but the underlying business models are true business models — not only now but for the future, in terms of delivering services, advice and what have you digitally,” UBS CEO Ralph Hamers told CNBC at the World Economic Forum on May 24.
Secondly, if you know you’ll be getting at least some bad news, you can prepare yourself for the worst.
Bracing for some bad news helps traders bake in some of the negatives they are expecting to see, which keeps the market more stable.
That is because if even a shred of that news turns out to be more positive than expected, it could push share prices up higher.
If not, it won’t be a huge surprise that depresses the entire sector and loses people billions of dollars in the process.
Tech’s Squishy Math
At the heart of the issue is a longstanding suspicion that institutional investors and more traditional banks and trading shops have about how tech actually measures its profitability and failures.
Past examples of questionable mathematical slights of hand have include WeWork’s “community-adjusted” EBITDA, which actually turned out to mean the work-sharing firm was on the hook for $47 billion to office owners from which it had leased space.
“We have a history of losses and, especially if we continue to grow at an accelerated rate, we may be unable to achieve profitability at a company level,” the firm said in its S-1 filing, “for the foreseeable future.”
Investors didn’t find that out until the company filed to go public, quickly scuttling the deal and devaluing the company from a $47 billion valuation to close to bankruptcy in a 33 days.
Then there was, of course, biotech startup Theranos, which never even had a working product but still brought in big names like former Secretary of State George Schultz and Oracle’s Larry Ellison.
It raised $1.3 billion in funding before a whistleblower brought the whole operation down, leading to criminal charges and the conviction of its CEO Elizabeth Holmes, who is awaiting sentencing in the case.
Now, with inflation over 8% and a recession looming on the horizon, tech companies that want to survive are going to need to be as absolutely transparent as they can be.
“Transparency benefits companies as well as investors,” a study from the Kellogg School of Management at Northwestern University has found.
“A number of studies have shown that investors are more willing to buy stock in a company when they have a clear understanding of the company’s finances.”
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