Welcome to our fourth edition of Questions of the Week. This week we will be taking a look at some of the major technology companies that have recently reported results, and what those results can tell us about the future of the sector. Feel free to let us know what you think about this post, or if you have any questions you would like to see answered in a later update.

 

Question: Several technology companies recently reported results. What is the outlook for that sector and why is that important?

 

Every three months publicly traded companies issue their quarterly earnings. This is a recap of how the company has performed over the past three months, as well as a chance to address any current issues or provide projections as to what can be expected in the coming quarter or year. Earnings tend to come in waves as companies from the same sector generally report at around the same time as their peers. Recently, it was technology’s turn, with quite a few large companies issuing their results during the last week of April. In most cases, the quarter that just ended was a good one. However, despite results that were predominately positive, by the end of the week the sector had gone into retreat. There are several factors that contributed to this decline and perhaps they can be best explored by looking at the results of two of the largest companies in the sector, Apple and Amazon.

 

Q1 Was Pretty Good

 

Apple’s results exceeded expectations thanks to strong sales in the Wearables and Services categories. In addition, its balance sheet remains in good shape. In a time when many companies are freezing or cutting their dividend, Apple announced that they would be raising their quarterly dividend by six percent. Similarly, Amazon saw strong revenues and sales growth through the first quarter. As might be expected given the current circumstances, online shopping increased significantly through the latter part of the first quarter and is expected to continue growing through the second. Despite these seemingly positive results, both companies saw their share prices decline along with the rest of the sector after reporting earnings.

 

But What’s in Store For Q2?

 

Apple’s decline is likely related to its decision not to issue forward guidance for the first time in years. Typically, when a company provides its quarterly results, they also provide a forecast as to how they believe the next quarter, or the next year, will go. By foregoing this option, Apple is admitting that they are unsure as to the exact toll the COVID-19 lockdown and resulting economic slowdown will take on its business. One thing they can be certain of is that the global smartphone market just experienced its worst contraction in history, adding yet another layer of uncertainty to Apple’s prospects going forward.

Unlike Apple, Amazon did provide a degree of guidance. As one might expect, revenues are anticipated to rise in the coming quarters on the strength of significant increases in online shopping. Sales were up 26% in the past quarter and should rise even further in the coming quarter. However, along with this positive outlook is the reality that those increased revenues will be accompanied by increased costs as the company deals with the need for higher labor and logistics spending due to COVID-19. Amazon has indicated that, given the projected increase in costs, they may experience a loss in the coming quarter.

 

The uncertainty displayed by these two industry leaders is mirrored across the entire sector. Truthfully, no one quite knows what impact the COVID-19 driven slowdown will have on the economy. While it is generally agreed that the world is likely already in a recession, you can find a wide range of opinions as to what the length and severity of that recession will be. Effectively, what Amazon and Apple are telling us is that the outlook for their sector is as uncertain as it is everywhere else. This is important as it is the large tech companies that have led equities higher over the past few years, and who, more recently, played an integral role in April’s market rally. If these companies begin to experience setbacks, we may see further broad market weakness as investors reassess their exposures.

 

Taking a Longer View

 

So far, we have focused primarily on the short-term outlook for the sector. With a longer time frame, the picture gets a little better. While many technology companies will likely experience decreased demand or increased costs (or both) through the next few months, the long-term outlook for many of these companies remain intact. While Amazon will have to cope with higher costs in the short term, this should be a transitory issue. At present, one of the big concerns is that no one knows just how much it will cost Amazon to improve protections for its workers and adjust to logistics issues. Once these costs are known and understood, it is likely that the market will view Amazon’s expected increases in revenues in a more positive light. Similarly, while Apple may see shipments of smartphones decline in the coming months, these numbers will eventually recover. In the meantime, the company has a strong balance sheet and a growing number of revenue streams that are less reliant on big purchases such as smartphones and tablets. Assuming these companies can weather the next few months, the long-term outlook for each remains bright.

 

The technology sector has been the backbone of investment markets for most of this century. Tech companies have driven the broad market higher in a time when commodity prices have declined, and more mature industries have seen slower growth. Going forward, technology will likely continue to lead the way. However, as with every other sector, there will be companies that come through the present weakness in good condition and there will be companies that find themselves challenged, or worse. 

 

As always, we are happy to discuss this or any other market related question you might have. We are available by both phone and email and look forward to speaking with you.

 

Disclaimer: This information, including any opinion, is based on various sources believed to be reliable, but its accuracy cannot be guaranteed and is subject to change. CIBC and CIBC World Markets Inc., their affiliates, directors, officers and employees may buy, sell, or hold a position in securities of a company mentioned herein, its affiliates or subsidiaries, and may also perform financial advisory services, investment banking or other services for, or have lending or other credit relationships with the same. CIBC World Markets Inc. and its representatives will receive sales commissions and/or a spread between bid and ask prices if you purchase, sell or hold the securities referred to above. © CIBC World Markets Inc. 2020.