Oct. 25, 2022

The Reckoning Begins, Alphabet Google, and Microsoft

They are the heart and soul of this stock market. Even after collectively losing $3 Trillion this year. These five companies are Microsoft, Alphabet, Apple Computer, Amazon, and Meta Platform.

They've led two significant recoveries for the markets, the Great Financial Recession of 2008 and the Covid Pandemic of 2020. These companies have demonstrated their ability to expand market share and improve revenue in economies that witness tremendous change.

There can be little doubt that these companies' dominance in the online world of the internet has been among their greatest assets. The internet has allowed the big five to scale up their operation faster and with less expense than the traditional brick-and-mortar businesses. It has also given them a tremendous marketing advantage, with a reach that exceeds nearly every other brand.

But this quarter, things may be different. This quarter the full impact of a pernicious foe is set to hit the big five right where it hurts: in their earnings. That foe is, of course, inflation, the country's number one economic problem.

Over the next three days, all five companies will announce their results. And Wall Street expects that these five companies: Microsoft, Alphabet, Amazon, Apple, and Meta, will see their earnings decline by more than twenty percent. This group's most significant decline in memory indicates just how difficult this economic environment has become.

As I say, the chief cause of all this is the unrelenting inflation that the country is currently enduring. These companies market primarily to retail customers. Average consumers are bearing the full impact of these rising costs.

Almost everyone I talk with is concerned about the direction of inflation. It's not only that prices are high right now. It's the uncertainty of not knowing when prices will get under control. It's one thing to see your everyday expenses rise by more than 8%. It is particularly alarming when you realize that we don't know where those expenses will be in a month or a year.

Forget discretionary spending; it's out of the question right now. The average person is locking up their wallet. As this holiday season unfolds, I suspect we'll see fewer new Apple iPhones or Microsoft laptops sold. Even Amazon, the equal opportunity retailer, will have trouble this year as consumers cut back. Consumers will have to wait and see whether they can make ends meet.

People are getting nervous, the cause is inflation, but the result will be fewer impulse sales.

The second major issue facing the big five is inflated expenses.

Microsoft has already provided us with some guidance on this quarter's earnings.

Incidentally, forward guidance is one of every investor's most valuable and essential reports. It's especially significant now with issues in the Supply chain, pricing, and manufacturing in such turmoil. And I'm seeing more and more companies using guidance statements to let shareholders and investors know that things are changing with their business.

So, in July, Microsoft guided on the quarter they're reporting today. In the guidance, they account for three revenue streams, Business Computing, in which they were projecting a modest increase. For personal computers, they projected flat earnings and healthy growth in revenue from the Microsoft Cloud. They also reported two areas of expense. The cost of revenue showed a modest increase, and operating expenses showed a dramatic increase.

However, this report has a catch, and you may have already seen it. The income streams each represent just one-third of revenue. But the expenses apply throughout the company. So the operating expense increase, estimated at nearly 20%, applies to everything. That will have a significant impact on the bottom line for Microsoft in today's earnings report.

Expenses will be the key to each company's results, all driven by inflation. Interest rates are higher, labor costs are heightened, components and raw materials cost more, and taxes will increase as income levels rise.

So if you listen to the conference call, or review their quarterly reports, make special note of the expense ledger and how much it is increasing. Expenses are the key to this quarter's earnings reports.

Today, after the markets close in New York, Microsoft and Alphabet/Google will report their latest results, tomorrow Facebook/Meta, and then on Thursday, Apple Computer and Amazon.

 

Econ Briefs

 

As the world prepares for Winter, some real bottlenecks appear.
Over in Europe, which no longer has the gas supplied by the Nordstream Pipeline, LNG Ships are beginning to stack up offshore. There need to be more stations to receive all the Liquid Natural Gas currently in the queue.

Spain has six LNG Stations, the most in Europe. And 35 tankers are waiting to off-load their supply. Germany, which doesn't have any LNG Stations, is looking to acquire a couple of floating terminals, but there is no indication of how long that will take.

There isn't a real issue currently, as temperatures in Europe are above average, and demand for natural gas is low. We'll have to see how this all progresses, as we're still two months from the beginning of Winter.

Here in the US, there is a real shortage of petroleum distillates. Diesel fuel and heating oil are in short supply in the Northeast. Bloomberg reports that the Nationwide supply of diesel, which powers everything from farm tractors to railroad engines to delivery trucks, is enough for a mere 25-days. The lowest level in 14 years.

While up in New England, the current heating oil inventory is just one-third of normal.

Energy continues to be the most significant issue for many as winter approaches.

There are two important economic reports on the docket this morning: the Case Shiller Home Price Index and the Conference Board's latest survey on Consumer Confidence. I expect both to show a slight decline.

A big day in earnings today as 132 companies are on the calendar to report. Leading the way, as noted, will be Microsoft and Alphabet. Already reporting and receiving a positive reception on Wall Street have been: Coca-Cola, Novartis, and United Parcel Service. Reporting and now trading lower are Raytheon, HSBC Holdings, and 3M Company.