2020 will be remembered as the year of the coronavirus pandemic and the resulting global recession. But it will also be hailed as the year in which tech stocks took centre stage. The stock prices of the tech titans – Apple, Amazon et al – have rocketed. But also, a slew of unicorns have also come to market. No equity portfolio can flourish without a significant allocation to tech, well established and newly launched, writes Victor Hill.
The charge of the unicorns
Half the world may be in full or partial lockdown, many for the second time around; GDP numbers are in free fall; and government finances everywhere are under strain, making the prospect of tax rises in the medium term inevitable. As I write a sombre milestone has been passed: one million people have now died of Covid-19 worldwide. And yet the great tech party continues, unabashed.
In early September Apple (NASDAQ:AAPL) became the first corporation to attain a market capitalisation of $2 trillion (that’s $2,000 billion). Although its share price eased somewhat as the month progressed, that meant that the US tech titan was worth more than the entire FTSE-100 put together. Amazon (NASDAQ:AMZN) has also had an incredible year, its shares having risen from under $2,000 on 01 January to over $3,000 at the end of September. The other tech behemoths – Google (NASDAQ:GOOGL), Microsoft (NASDAQ:MSFT), Facebook (NASDAQ:FB) and Netflix (NASDAQ:NFLX) – have all outperformed the market.
Not to mention Tesla (NASDAQ:TSLA), which, depending on your point of view, is a tech stock or an automotive play. Whatever you think it is, the outfit has more than quadrupled its share price year-to-date. (NB: do not be confused by the recent stock split).
The extraordinary resilience of tech stocks throughout the health crisis is well understood. They have hugely benefitted from the existing trends which the pandemic has accelerated: the move away from the office to home-working; the switch away from cash to contactless payments; the decline of bricks-and-mortar retailing and the corresponding rise of online shopping. What is less obvious is how almost any company that can be described as a tech company has been assured of an enthusiastic reception in the markets.
Some bearish commentators have drawn comparisons with the dot.com bubble at the beginning of this century. How can these new arrivals, they ask, many of which are generating huge losses in cash terms, carry such extraordinary valuations? What is clear is that there is a huge glut of money wishing to find a home – what economists call a surplus of private capital which wants out of the cash markets because of the derisory returns there.
But there have been some ominous failures too. Uber (NYSE:UBER), the ride-hailing app which launched in May last year is well down on its original offering price. And WeWork (which is not really a technology company at all) did not launch at all. The serviced office provider had to pull its anticipated $20 billion floatation last September and narrowly avoided going under.
Against these disappointments we should balance successful floats such as US digital insurance company, Lemonade (NYSE:LMD). Then there is Zoom (NASDAQ:ZM) which was worth just $9 billion in April last year is now worth around $80 billion. Since January there have been 75 new listings on the New York markets, many by means of special purpose acquisition companies (SPACs). This arcane method involves floating a shell company and using the proceeds from that to buy out the underlying company.
Let’s be honest. If we had known at the end of 2019 what we know now about the way equity markets would pan out in 2020 we would have seriously upped our allocation to tech. But will the tech romance continue in the second phase and then the endgame of the pandemic?
First, let’s consider some of the newer tech names currently vying for investors’ attention.
This is the Chinese payments company which was spun out of Alibaba (HKD:9988). This is set to list on both the Shanghai Star Market and Hong Kong in what could be the biggest IPO ever with a possible valuation of as much as $250 billion – though only about $35 billion of shares will be sold[i]. The group, in which billionaire Alibaba founder Jack Ma has a controlling interest, made profits of $3.2 billion in H1 2020.
In China, float activity is actually up on last year. Given the drama surrounding the defenestration of TikTok (owned by Chinese tech firm ByteDance) in the USA, the float of Ant Group will not be without controversy there. In the event, it seems that Oracle (NYSE:ORCL) has got control of TikTok as its trusted tech partner – and not the original front-runner, Microsoft. Though it seems that Oracle might be partnering the new American-controlled TikTok with Walmart (NYSE:WMT).
Reportedly, however, Oracle will not get control of TikTok’s all-important algorithm which would have required the agreement of the Chinese government. Given that TikTok has about 100 million users in the USA and generates two billion downloads per year – mostly by Generation Z aka Zoomer users (i.e. people born between 1997 and 2012) – it has become a hot potato in security circles. One possible solution is that Oracle will house TikTok’s US user data on its own servers. The exact configuration of the final deal will probably not be known until after the US presidential election.
Further concerns about the extent of China’s surveillance apparatus in the west were raised last month when it was revealed that Zhenhua Data, based in Shenzhen, has files on 40,000 British VIPs. As I have expounded in these pages before, there is going to be a parting of the ways between American tech and Chinese tech…
Airbnb was supposed to list in August, but the launch has been postponed. The word is that it will still take place before the end of this year. In late August the company filed the necessary listing disclosures. Analysts currently reckon that it will be valued at around $18 billion.
Is Airbnb a tech company or a holiday company? That is the question. The company was extremely adversely affected by the lockdowns in Europe and North America when people were either advised or compelled to stay at home. Having built up huge brand recognition over 12 years, bookings collapsed in Q1 2020. In April, the company let nearly a quarter of its staff go. But analysts are looking beyond the current health crisis to a post-pandemic world in which hotel capacity will have been reduced but where people wish to travel again; and where homeowners will still want to generate cash on their property assets.
Palantir launched on Wednesday (30 September) at a reference price of $7.25 per share, which would value the company at $16 billion[ii]. It has been described as a dark arts data firm. It combines data mining expertise with artificial intelligence (AI) and is known to have worked for some of the US Federal government’s most secretive agencies, including the CIA. It is said that Palantir helped the US military to track down Osama bin Laden. There are rumours that it has been engaged by the UK Border Force.
Essentially, Palantir is a leader in data integration. In March, it had 125 clients across 36 industrial sectors. Reportedly, Palantir designates its own expert employees to sit within its client companies to help design their own data mining tools. (That sounds more like consulting to me – but never mind).
It is backed by Peter Thiel, a co-founder of PayPal, a director of Facebook and a Trump advocate. President Alex Cohen and CEO Alex Karp are also major shareholders. This year the 17-year old company won a contract from Britain’s National Health Service to develop a coronavirus database.
The company generated revenues of $742.5 million last year – and losses of $579 million. In H1 2020 it made $164 million in losses, compared to $274 million in H1 2019. One portfolio manager observed that Palantir has made losses while paying enormous salaries to senior executives, even advancing loans at less than commercial rates.
Some investors might not appreciate its complex voting structure which brings back discomforting memories of WeWork’s corporate governance. The directors effectively control the company even with small minority shareholdings. But perhaps a company with such a high security profile needs to protect itself from the wrong type of activist shareholders. We wouldn’t want Palantir to come under Chinese influence, would we?
Slack is a business communications platform developed by American software company Slack Technologies. Slack offers many internet relay chat (IRC) type features, including 24/7 topic-driven chat rooms, private groups, and direct messaging. Slack launched on the NYSE in August. Its share price has been quite volatile over the last month or so, and at time of writing is trading a few dollars above its offering price at $26.80.
DoorDash, Deliveroo & UberEATS
A lot of people seem not to want to cook at home, these days. DoorDash, founded in 2012, is another cooked food delivery company competing in the space occupied by Deliveroo and UberEATS; and it has aspirations to go to market. Deliveroo’s main investors are Amazon, T Rowe Price, Fidelity Management and Greenoaks Capital. Following unsuccessful takeover talks with Uber, rumours have resurfaced that Deliveroo could list its shares on the stock market through an initial public offering (IPO) later this year.
For many investors, the name of this new arrival was unfortunate. Snowflake is a derogatory term for a young person with an overly sensitive disposition who requires trigger warnings before looking at a painting by Caravaggio. But it is also the name of a cloud-based data warehousing venture founded in 2012 and headquartered in San Mateo, California.
The company was launched on the New York market by Goldman Sachs on 16 September and saw its share price rocket from its initial value of $120 to $250. The consequent $70 billion valuation was 140 times the company’s annual revenues – despite losses of $171 million in H1 2020. Even in late August the expected valuation was being pitched at around just $12 billion. This gives Snowflake a market capitalisation nearing that of computing pioneer IMB (NYSE:IBM) ($108 billion). Co-founder Benoit Dageville and CEO Frank Slootman became instant billionaires.
Mr Dageville is a veteran of database giant Oracle. He claimed on launch that Snowflake is just at the beginning of implementing its vision – and investors clearly take him at his word, for now at least. One reason might be that Snowflake attracts a nice class of customer – outfits with clout like Uber, Pinterest (NYSE:PINS), Facebook, Twitter, Sony and Capital One (NYSE:COF) amongst its over 3,000 customers. Names like this spend big money and remain loyal to good service.
Many large companies are now taking a hybrid approach to data management: they store some data in-house, then outsource less critical data to big cloud providers (of which Amazon Web Services and Microsoft Azure are amongst the largest). What Snowflake offers is the possibility to integrate all this data stored across multiple providers. Going forward, Mr Dageville wants to enhance Snowflake’s AI so as to sort data more meaningfully and rapidly. But Snowflake does have competitors such as Teradata, Netezza, Exadata and AWS Redshift, amongst others.
As I write, the stock price has spiked further and is at $263, making the firm’s market cap more like $73 billion. Warren Buffett’s Berkshire Hathaway and Marc Benioff’s Salesforce Ventures picked up $250 million worth of shares each at the offer price. But there are sceptics. Ross Gerber, a Tesla bull, and co-founder of Gerber Kawasaki wealth management tweeted on 17 September: “I guess Tesla is cheap when looking at Snowflake”.
Unity (NSE:UNITY) & gamers
Unity went public via a direct listing on 17 September which involved an online bidding system. Companies which allocate shares to employees on launch normally require them to hold the shares for at least six months; but Unity’s employees were accorded the right to sell immediately, if they so wished. Shares closed up 31 percent on their first full day of trading.
The Danish-American designer of computer video games has a sharply rising revenue curve and has managed to reduce its losses of late. The gaming industry is another one that has flourished during the coronavirus lockdowns.
The sector was shaken last month by the legal dispute between Apple and Epic Games, the developer of the incredibly popular game, Fortnite. Epic was kicked off Apple’s App Store after it tried to bypass the 30 percent fee that Apple charges developers. Google followed shortly thereafter, removing Fortnite from its Play App store. British video-gamers Team 17 and Sumo Digital have been caught in the crossfire as they are unable to get access to Epic’s Unreal Engine which provides graphics software to thousands of other games and animation studios.
The British technology start-up Improbable is mainly known for ambitious video games in which thousands of participating players can control avatars inside a virtual world. For example, Scavengers is a video game which unfolds in a future world where the moon has been shattered by an asteroid. But the same technology that powers Scavengers is also being used by the UK and US armed forces to run training software which could revolutionise the way soldiers prepare for combat. Reportedly, the Ministry of Defence has spent more than £8 million on Improbable’ s software.
Asana (listed 30/09/2020)
Founded by one of the early Facebook investors, Dustin Moskovitz, Asana is described as a workplace collaboration firm. It launched on Wednesday (30 September) at a reference price of $21 a share which would value the company at $3.2 billion[iii] as compared with the $1.5 billion expected valuation at the end of August.
Spotify’s music download and sharing app was made available back in 2008 but the Swedish company did not come to market until 2018. Last week, its founder, Daniel Ek, pledged to invest €1 billion of his own fortune to create a team of new tech super-companies.
The company’s shares have more than doubled over the last 12 months. The company has faced more intense competition from Apple, Amazon and Google which are promoting their own streaming services, respectively through their iPhone, Echo and Nest voice-controlled speaker systems. But Spotify has remained ahead of the game in terms of the podcast boom – speech downloads. Live radio remains the dominant form of audio, accounting for 63 percent of total listening time in the UK as against just 16 percent for streamed music. Over the last year Spotify has signed up numerous celebrities to record podcasts, not least Michelle Obama. That said, podcast advertising remains a very niche revenue stream. Spotify is reportedly working on this.
Clubhouse and friends
Clubhouse is an audio-based social network where people can spontaneously join voice chat rooms, each of which is dedicated to a particular topic. Users can see the rooms of all the people they follow, and they can join to talk or just listen in, finding whatever interests them. It is sometimes described as an audio-only version of Twitter. The app has a growing following in Silicon Valley, but thus far it remains invitation-only, thus conferring prestige on its selected users.
Clubhouse was built by Paul Davison, who previously founded people-meeting location app Highlight and the camera app Shorts before his team was acquired in 2016 by Pinterest. (That is another internet stock that has doubled this year – and it is expanding its e-commerce functionality rapidly in the UK where it has 15 million monthly users). This year Mr Davidson launched his Alpha Exploration Co app which offers access to a tech start-up studio. Spontaneity is the theme of all Mr Davison’s concepts, whether in making new friends or expressing one’s views.
Similarly, Cappuccino is a kind of audio version of Facebook. Users record a daily audio update on what they’ve been doing which can be accessed by their friends. Meditation apps Calm and Headspace deliver soothing music for relaxation or to accompany workouts or to provide background sleep noise. The trend away from screen-based apps to audio-based apps is reflected in the boom in sales of good quality headphones.
As well as a series of high-profile IPOs in the tech sector, canny investors should also look out for the possibility of demergers which add shareholder value. For example, the split between eBay (NASDAQ:EBAY) and PayPal (NASDAQ:PYPL) in 2015 has been beneficial for both companies, though it is PayPal which has prospered more. eBay is an online marketplace and PayPal is a fintech payments platform used widely by people who never purchase on eBay. In Q2 this year, PayPal processed $222 billion of transactions.
Some analysts think that Silicon Valley might want to decouple from Wall Street by moving from the NASDAQ to the newly inaugurated Long Term Stock Exchange (LTSE). LTSE is backed by some of the top Silicon Valley venture capitalists including firms such as Andreessen Horowitz and Founders Fund. The argument is that such a tech-only exchange would be less susceptible to short-term economic shocks.
Clearly, tech stocks will continue to command high valuations so long as they continue to offer unrivalled growth prospects. But investors need to evaluate them on a case by case basis, rather than a sectoral basis. Some are definitely more alluring than others. Data mining, cloud computing, popular gamers and of course AI are the menu du jour. That is not likely to change for now, however the pandemic pans out.