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Microsoft cannot escape headwinds from technology earnings pressures
Equities 7 minutes to read
Peter Garnry
Chief Investment Strategist
Summary: US technology stocks rose 2.8% on Friday catapulting the sector to its highest close since mid-December. Sentiment was bolstered by an optimistic outlook from Netflix and more technology layoffs with Alphabet announcing cutting 12,000 jobs. Investors see aggressive cost-cutting as key to restore profitability in the sector with earnings down 17% from the peak in Q4 2021. We also take a look at Microsoft FY23 Q2 earnings scheduled tomorrow after the market close with expectations of a drop in revenue growth.
Widespread layoffs in technology sector is needed
Last year was brutal for the US technology sector with Nasdaq 100 futures declining 32% ending a decade of also uninterrupted gains in earnings and market value. The message from investors was clear: “cut costs fast”. Technology companies listened with combined layoffs reaching around 200,000 across a wide range of technology companies. Alphabet, the parent company of Google, was the latest announcing 12,000 jobs cut on Friday and today Spotify followed the rest of the industry cutting 6% of its workforce.
Layoffs are necessary for the technology industry as revenue growth has slowed materially relative to the rest of the economy as economic activity has shifted to the commodity sector. Nasdaq 100 earnings are down 17% from the peak in Q4 2021 and wage pressures continuing while customers are holding back on technology spending the industry is forced to cut costs to preserve margins and equity valuations.
The technology sector also rose to the news this morning that the activist investor Elliott Management had made a significant investment in Salesforce and while the objectives are unclear at this point profitability must be the key focus. Salesforce hired too many people during the pandemic and recently laid off 10% of its workforce as customers are holding back on spending on enterprise software. Salesforce had an EBITDA margin of 17% in the last 12 months compared to its competitor Microsoft at 49.8%.
Microsoft sees margin pressure
The world’s largest software maker reports FY23 Q2 earnings (ending 31 December) tomorrow after the market close with analysts expecting revenue growth slowing to 2.3% y/y down from 20.1% y/y one year ago and down from 10.6% y/y revenue growth in the previous quarter. While the strong USD is obviously impacting foreign income the macroeconomic headwinds are also impacting customer activity. We expect the macro headwinds to impact the Windows and cloud businesses driven by lower PC sales and a slowdown in enterprise software spending. In addition to slowing revenue growth increased energy costs to its data centers and wage pressures will continue to put Microsoft’s operating margin under pressure. EBITDA margin is expected to decline to 45.6% in FY23 Q2 down from 49.8% in the previous quarter and 50.7% a year ago. Analysts expect EPS of $2.30 down 6% y/y. Microsoft’s share price is down 29% from its peak and the equity valuation has fallen to a 3.6% free cash flow yield which is slightly above the US 10-year yield with the difference being that these free cash flows are not fixed unlike those coupons on government bonds.
The most important earnings releases this week are shown below:
- Today: Baker Hughes
- Tuesday: Nidec, Microsoft, J&J, Danaher, Verizon, Texas Instruments, Raytheon Technologies, Union Pacific, Lockheed Martin, Intuitive Surgical, GE, 3M, Halliburton, DR Horton
- Wednesday: ASML, Lonza Group, Tesla, Abbott Laboratories, NextEra Energy, IBM, Boeing, ServiceNow, CSX, Freeport-McMoRan, Lam Research, Norfolk Southern
- Thursday: Tryg, Novozymes, Kone, Nokia, LVMH, Christian Dior, STMicroelectronics, SAP, Diageo, Atlas Copco, Volvo, SEB, Visa, Mastercard, Comcast, Intel, Blackstone, Valero Energy, Archer-Daniels-Midland, Dow, Nucor, L3Harris Technologies, Southwest Airlines, American Airlines
- Friday: Fanuc, Chevron, American Express, Colgate-Palmolive
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