A few weeks ago we asked the question “Why is Wall Street not anticipating any earnings leverage from Big Tech’s Q4 2020 results?” We chronicled that only Tesla’s analysts were expecting earnings growth to exceed revenue growth. Apple, Microsoft, Google, Facebook and Amazon, not so much. (We use Yahoo Finance for Wall Street analysts’ earnings estimates and have always found this source reliable.)
Well, now we know the answer: the analysts were just being way too conservative, because in every case Big Tech did show significant earnings leverage. Here’s a look at each company’s top and bottom-line growth for calendar Q4 2020 (excluding Tesla, since its earnings leverage was never in doubt):
- Revenue growth: 21.4 pct, with “Products” growth of 21 pct and “Services” growth of 24 pct. Products like smartphones and computers are still 86 percent of Apple’s revenue.
- Earnings growth: 29.3 pct. Apple made a 33 percent net margin on its marginal sales versus last year as compared to its all-in net margin of 24 percent in Q4 2019.
- Revenue growth: 16.7 pct. Most of this came from MSFT’s Services business (27 pct growth), with Product sales only up 7 pct versus last year.
- Earnings growth: 32.7 pct. Microsoft made a 62 percent net margin on its marginal sales versus last year, as compared to its 32 pct all-in net margin in Q4 2019.
- Revenue Growth: 43.6 pct. Product sales were up 41 pct and Services revenues were up 48 percent.
- Earnings growth: 121.0 pct. Amazon made a 10 percent net margin on its marginal sales versus last year, as compared to its Q4 2019 net margin of 4 pct.
- Revenue growth: 23.5 pct. Services revenues (includes ads, YouTube) rose by 22 percent, and Cloud revenues increased by 68 pct (still a small part of the overall business though).
- Earnings growth: 42.7 pct. Google had a 42 percent net margin on incremental sales versus last year, as compared to a 23 pct net margin in Q4 2019.
- Revenue growth: 33.2 pct. Facebook only really has one business – advertising – so there’s no segments to break down here.
- Earnings growth: 52.7 pct. Facebook had a 55 percent net margin on incremental sales versus last year, as compared to a 35 pct all-in net margin in Q4 2019.
A word of explanation here before we wrap up: the number we’re focused on in the “earnings growth” discussion above is incremental net profits (Q4 2020 minus Q4 2019) divided by incremental revenues (also Q4 2020 minus Q4 2019). If a company with $1 of sales and $0.10 of profit in year 1 has $1.50 of sales in year 2 and shows $0.30 of net profit, its incremental margin is 40 percent (50 cents of new sales yielded 20 cents of new net profit). Since that’s higher than its year one margin of 10 percent ($0.10/$1.00), we say that its business has positive earnings leverage. This is a good thing – earnings leverage yields earnings surprises, as we saw with all 5 of these companies.
Summing up: Big Tech averaged a 40 percent net profit margin on every dollar of incremental sales in Q4 2020 versus Q4 2019, and that is a remarkable number given 2020’s manifold uncertainties and the scale these companies already enjoy. Yes, these companies all sport rich valuations. But there’s a reason for that. This reason. It doesn’t make them “buys” necessarily – all this in the past and 2021 brings new regulatory challenges of course. At the same time, it’s important to understand just how remarkable these business models remain and what metric to watch as this year unfolds.