Not so Big Tech
The trade war may still be dominating the headlines, but another conflict is brewing that demands investors’ attention: US regulators and lawmakers are taking on the tech giants.
The latest reports indicate that various enforcement agencies and legislative bodies in the US are preparing to probe the likes of Google, Facebook, Amazon, and Apple for anticompetitive behaviour.
Specifically, the Federal Trade Commission (FTC) and the Department of Justice (DOJ) have agreed that the former will now be responsible for overseeing Amazon and Facebook while the latter will scrutinise Google and Apple. The Judiciary Committee in the House of Representatives has also established an antitrust subcommittee on digital markets.
None of this is likely to lead to immediate action against individual companies – previous investigations have taken five years and more – but its ultimate impact could be significant.
The most severe outcome would be an order splitting up these businesses: Google’s parent Alphabet, for example, could be broken down into components such as advertising technology, YouTube, cloud computing, Android and Google Play, Waymo, Verily, Maps, and so on.
Alternatively, the tech incumbents could be subjected to mandated changes to some of their business practices or massive fines. The likes of Google and Facebook have already paid multiple billion-dollar penalties in recent years.
As those fines illustrate, we have been here before. The FTC concluded an investigation into Google’s search and advertising operations without formal action in 2013, while a European Union case against its Android system resulted in close to $5 billion of fines for breaching antitrust laws. During all this, Google/Alphabet performed well as a stock.
Since then, however, the political environment – particularly in the US – has clearly changed.
A more instructive precedent may therefore be the experience of Microsoft in the late 1990s, when against an aggressive regulatory backdrop a federal court decided that Microsoft should be cleaved into two entities as punishment for monopolistic practices.
We know today, of course, that that never came to pass and Microsoft is now the largest public company in the world by market capitalisation. Indeed, both Microsoft and the broader US tech sector performed well during that probe; Microsoft’s share price took a hit on the ruling, but recovered relatively quickly.
More worryingly, though, it is worth remembering that Microsoft’s management was evidently distracted during the whole affair and ended up missing some emerging technology trends. Does anybody still have a Zune or use Bing, for example?
A related danger is that increased regulatory scrutiny encourages a more cautious management style at tech enterprises, which could limit long-term value creation, and/or creates a greater sense of urgency around the short-term monetisation of businesses.
So while we see no immediate impact on revenues or earnings at these tech names from greater interventionism, we must remain aware of these risks as well as any uncertainty discount applied by the market to the tech sector.
On the other hand, some analysts argue that Alphabet’s share price could benefit from being broken apart because this could unlock value and unwind the conglomerate discount. This possibility is less likely for Facebook, though.
The bottom line is ‘don’t panic’. Ultimately, it is too early to tell whether these latest developments are consistent with our base case of gradually tightening regulation in the technology space, although we do expect an increase in this type of news flow in the run up to the 2020 election.
These probes will take many years to play out, and in the meantime the short-term profit impact is negligible and the eventual outcome could well be benign. Looking further ahead, historical precedents suggest that the affected stocks and the wider sector can perform well during regulatory investigations and that it is fundamentals that will drive stocks’ performance.
We are therefore maintaining our conviction in the technology sector.