Slack currently has negative sentiment surrounding the company and the stock. We’ve seen a few instances where Slack is lumped in with the IPO unicorns this year, such as Uber, Lyft and WeWork. We believe this is unwarranted, but regardless, this is the information being reported. Meanwhile, we see companies with more positive sentiment experiencing deep sell-offs around the earnings report.
Keep in mind, Slack’s growth has been slowing – from 82% last year to 47-52% growth year-over-year over the past couple of quarters. Revenue came in at $145 million compared to $140.7 million expected by analysts with reported EPS negative 14 cents compared to expected EPS of negative eighteen cents. The stock dropped 16% following its last earnings report.
Slack is guiding for third-quarter revenue of $154 million to $156 million. Judging by the reactions to previous earnings reports this quarter, Slack’s report has to be perfect to not accompany a sell-off.
Could Slack have a surprise earnings report? Yes, it could, but right now it’s a coin toss. It’s a gamble to own Slack right now based the stock trading at the bottom for slightly more returns. The other option is to wait for a breakout confirmation for slightly less returns. There has been institutional interest on both the long and short side of Slack, which has established the current trading range as well as important price targets for breakouts (more on this below).
Many analysts are focused on Microsoft Teams, which is a mistake for a few reasons. Microsoft has dominated business communications for thirty years with an estimated 400 million users on Microsoft Outlook. I assume Microsoft Teams will leverage this user base and sign-up many more users than the 20 million that Teams currently has. Slack’s addressable market is primarily the non-Outlook users (although many users have both Outlook and Slack). The addressable market is hard to exactly quantify but there are 100 million Mac users and 70 million G-suite users. Slack’s addressable market should be somewhere in this range of alternative OSs and productivity tools.
Workplace chat applications are very early but will replace other enterprise and small-to-medium business communications moving forward. This is an important trend to watch as Slack’s engagement is unheard of, with the application open 9 hours per day and boasts engagement of 90 minutes per day – compared to Facebook at 58 minutes, Instagram at 53 minutes and YouTube at 40 minutes per day. These social companies monetize through advertising, but in time, Slack should be able to charge companies for the usage once the trend breaks out.
We know from Microsoft’s user base of only 20 million, or 5% of their addressable market, that we are dealing with a very early trend. Slack will continue to be on our watchlist regardless of what the earnings come in at.
Technical Analysis
By Knox Ridley
Slack’s downtrend does not seem to be over just yet. It bottomed at $19.54 and has been range bound between the $20 and $23 range. There are heavy buyers at both regions, so it will probably take an earnings surprise to break the range.
Based on the current structure of the most recent uptrend, it is obviously corrective in that it overlaps. We do not have a clear 5 waves up, and until I see that, I would be cautious of any bottom.
Furthermore, the MACD is approaching its own resistance, which it will need to break through to further confirm a new uptrend. The RSI is making lower highs while price is hitting the $23 resistance zone, indicating that the momentum is fading as well. And, the volume is fading as we approach the $23 region.
All of these factors are pointing towards another retest of the $20 support region. Even if we do get a much deserved breakout, until Slack shows a clear impulsive 5-waves up off the bottom, and clears through the above retracements with heavy volume, I’d be cautious and expect one more leg lower before we finally get a real buying opportunity for the long haul.
Please note: The I/O Fund conducts research and draws conclusions for the Fund’s positions. We then share that information with our readers. This is not a guarantee of a stock’s performance. Please consult your personal financial advisor before buying any stock in the companies mentioned in this analysis.
Qualcomm has not reached its $100 stock price high since the late 90s. Since then, Qualcomm’s price action has been in a series of multi-year ranges, overlapping structures, and powerful uptrends that get sharply interrupted, which makes charting its structure not as straight forward as other stocks.
However, with 30 years of price action, I believe we will see a pullback, followed with a renewed uptrend that should take QCOM to all-time highs for the first time in 20 years.
Elliott Wave Count – Game Plan
The above chart is a snapshot of Qualcomm’s price action trading from 2015 until now. We are currently in a larger degree, primary wave-3, which is highlighted in blue. This wave will take years to play out, and will see a number of corrections along the way.
Remember, each wave is comprised of its own internal waves and is part of a larger wave. So, if we go one degree lower in time, what’s evident is that the primary wave-3 in blue is unfolding in a leading diagonal pattern. We are currently on the 3rd wave of 5 within this leading diagonal, which is highlighted in green. The evidence supports that we should expect a B wave correction soon.
Recently, the price of Qualcomm was met with a very tight cluster of Fibonacci levels, which are derived from multiple timeframes, and instantly reversed. This would put us in the beginning stages of the B-wave retrace, and the likely targets are in the green box. These price levels are comprised of retrace levels that will act as likely support and reversals in the coming correction.
Based on how dislocated semiconductor valuations got from their price, I will be targeting the lower end of the green box, which has another confluence of Fibonacci price clusters.
Internals and Trendlines Support Correction
If we look at the trendlines and internals of Qualcomm, it supports the correction scenario outlined above. First off, the RSI is showing negative divergence – the RSI is making lower highs while the price of QCOM makes higher highs.
This is always a caution sign and signals a drawdown of some extent, but it’s also worth noting that QCOM is also in overbought levels, further supporting the need for a momentum reset.
Next, it’s worth noting the 2 uptrends, which are highlighted with the blue dashed lines. Below each uptrend, the MACD moves along its own trendline. When the MACD is trending along with the price, it’s the sign of a healthy uptrend.
The MACD uptrend can also act as a warning of a large drawdown as well. Notice when the MACD and the price both broke their trends and how much downside that followed. I’m not expecting a drawdown of the magnitude we saw in late 2018; but, I am expecting a healthy correction.
The MACD also rolled over and is heading back towards the trend line. Once these trendlines break, the green target box will be in play, and I will be looking to make a position. For anyone that does not want to time their entries and wants to buy today, a suggested stop would be at $61.
However, I believe we will see a pullback into the region between $80 on the shallow end – and $60 on the more severe end. There is a large number of price clusters around the mid to low $60, and I would be a buyer around this price region.
Alibaba’s application to list on the Hong Kong Stock Exchange has been approved and will be an offering of up to $15 billion worth of shares, which will be the 3rd largest listing on the exchange. Alibaba will begin a roadshow soon. The new shares will then go live November 25th.
This listing will allow Chinese investors to buy shares of Alibaba, a beloved company, for the first time. This coupled with China’s recent propensity to buy new tech listings, should be a positive for the stock.
Keep in mind, Hong Kong is going through a period of political unrest. We can see from BABA’s trading action that investors are unsure of how the IPO will affect the stock price in the United States. One scenario is there is an arbitrage situation, where the higher price on the Hong Kong exchange increases the attractiveness for our market.
The above chart is the daily price action of BABA going back to its IPO in 2015. Since bottoming in in late 2015, Baba has been in a strong uptrend, which is highlighted by the blue dashed line moving up. When looking at the health of an uptrend, the RSI can tell you if it’s healthy, or fading. The green arrows indicate a healthy uptrend.
Notice the RSI oscillated above the 70 line and rebounds at the 50 line. This coupled with upward price, suggests more gains are potentially ahead.
Now, notice the RSI in late 2017. The red arrow is indicating that the RSI begins to trend down while the price keeps going up. This is the indication of an unhealthy uptrend.
Since bottoming in December 2018, Baba has recovered to an extent. Notice how the price is being squeezed by the triangle pattern, which is highlighted by the 2 blue dashed lines.
The RSI, though making higher lows, which is a great sign for building momentum, still has not breached the 70 line, which is a warning to bulls. I will want to see the RSI break through this level while price breaks through the upward triangle channel before I can confidently go in for the next leg up, while also raising my stops to protect any gains. Adversely, if the RSI breaks the upward trend, which is highlighted by the green arrow going up just below the RSI, that will be an indication the trend is breaking to the downside.
The Bull Case varies based on the state of the larger degree Wave 2 in green. It basically has us ending the Wave 2 drawdown in December 2018. That would put us already within the Wave 3 uptrend, which I have us topping out around $250 region, simply based on where we generally see 3rd Waves topping out.
The only problem that I have with this count is that the it took around 3 years for the first wave to form, and only 3 months for the second wave. This isn’t normal, but I’ve seen stranger things when analyzing the structure of a trend. So, if Baba decides to break resistance with the RSI in tow, I will happily go long with a stop just under $160.
For a buy and hold, Baba below $160 is a good target for any long only investor. Some of the Fibonacci counts have us with a retrace to at least $130.
Volume Report
The above chart is a snap shot of the daily price action of Baba going back to the beginning of the most recent bear market in China, coupled with the daily volume below the price.
Fundamentally, price is simply a battle between buyers and seller. If you think of it as a scale, if the weight of buyers increases, the price will increase, and vice versa. So, when institutions – i.e., the “smart money” – make a position, it will do so in large volume, which will move the price of the stock.
I look for two things: (1) larger than normal volume spikes, that do not coincide with earnings reports; (2) Large spikes in volume that coincide with large moves in price.
That being said, the blue lines above indicate prices at which we see institutions deciding to sell. The above chart shows four instances of heavy selling with significant price moves within this range.
Notice how difficult it has been for Baba to break out of this range to the upside and hold. I’d like to see the volume spikes shift to the green around this price level before getting more confident in the upward direction of Baba.
Conclusion:
We are long on Alibaba, and believe it is undervalued based on current prices. Our cost basis is currently below $160, so we are holding it without stops. If it breaks the $160 price zone, we will likely add more to our position for the long haul.
If you are more cautious and do not yet have a position in Baba, I’d place a stop just under $157 to protect from a larger degree drawdown. And, if you’d like to wait for more confirmation, you can wait for Baba to confirm both in RSI and in price through the triangle pattern with a much tighter stop.
We want to make sure you’re aware that Uber’s lockup period expires on Wednesday. According to CNBC and MarketWatch, this will cause 763 million shares to become available on 1.7 billion total shares, or roughly $22 billion in shares … that’s a lot of liquidity required for a company that has troubled fundamentals.
I’ve covered Uber extensively since its IPO. I won’t repeat all of the points here but you can find links to the past analysis below.
We’ve seen solid companies like Zoom experience drops after the lockup period. We’ve also seen IPO hype companies like Beyond Meat drop 22%.
We believe Uber will be hit from all sides. Employees are not happy with Uber. There’s been layoffs since the IPO and a change in management, including controversy around the former CEO. Early investors are likely worried about their returns, especially with the heat on WeWork, another one of Softbank’s big bets. The company is at a thresh-hold where early investors can still make a decent gain.
I’m not too concerned with an “earnings beat” as we don’t believe the company will withstand the liquidity on Wednesday. Lyft had an earnings beat and the stock declined the next day (on that note, I’m sure Lyft will be affected by the lockup expiration too).
FactSet analyst estimates are at a loss of 70 cents per share on revenue of $3.63 billion.
Uber’s price action is not much different from our market update last week. In short, Uber appears to be in a larger degree, 3 move correction – outlined by the purple (A), (B), (C) in the chart. The (A) wave down unfolded in a 5-wave pattern, bottomed in October, and is now correcting upwards in a 3-wave fashion, which is the (B) wave. The micro structure of Uber in its (B) wave does not offer confidence that this is the beginning of a new uptrend, but instead just a short pause.
The red lines indicate the retrace levels of the (A) wave. Uber just barely broke the 23.6% retrace level before turning back towards support. We typically see 3 wave corrective moves operate with symmetry on the larger degree and smaller degree. This will be heavy support, and is also the likely target for the corrective (B) wave just before the final leg down begins. If Uber cannot touch this level, and instead turns down from current levels, I will move my final target down lower.
The red bar across the screen indicates a strong support region for Uber around $31.40-$30.50 This region was defined by 4 daily major volume spikes, indicating institutional money is likely allocating a position, which implies that these levels will be strong zones of support/resistance. The current level is major for Uber, and if it breaks through, expect new lows for Uber and for the final (C) wave down to be in progress.
Our stop for the short position will be at $40.25. The reason for this stop is twofold: (1) it’s just above the 61.8% retrace level indicating strong momentum; (2) it’s just above the $40 price cluster.
This price level marks two of the largest volume spikes in Uber’s daily trading. In other words, it’s likely that “smart” money as well as many other investors got trapped at these levels. If Uber can break through the level of selling that should occur at these levels, it’s a sign of more upside to come.
We have been shorting Uber since its IPO, and are pursuing this set-up.
If you want to wait for confirmation, wait for Uber to break support at $30.50, and place a stop at $31.50. This is a more conservative short. Long-dated puts with a strike price of $30 can also act as conservative insurance for a possible market downturn.
We weren’t expecting the market reaction we saw today with Pinterest and are now trying to determine if this was an over-reaction connected to the eBay and Etsy earnings, or if it’s indicative of a long-term trend in sentiment towards Pinterest, specifically. Etsy was down 15% today.
There was some misinformation circulating on the revenue miss, which is frustrating. Yahoo Finance! reported a miss of $2.5 million whereas the actual miss was $900,000. The lower number is confirmed by both CNBC and Reuters. Barlcays said on the call that Pinterest came in above their estimates. I put more info on Yahoo’s mistake below.
Other metrics:
Company beat on earnings per share of 1 cent vs. expected 4-cent loss
Beat on monthly active users of 322 million vs expected 311.8 million
Miss by 1 cent on average revenue per user of 90 cents vs 91 cents, per FactSet
Company guided for improved 2019 adjusted loss of -$10M to -$30M compared to previous estimates of -$25M to -$50M
Company slightly improved the guidance on the low end to $1.1 billion to $1.115 billion. According to Refinitiv, analysts were expecting sales of $1.2 billion although this does not match company guidance.
I’m torn as the international ARPU is weighing on the company, as I spelled out in great detail in the PDF, yet the growth is also decent for a company of this size and I see a path to profitability here. If Pinterest can crack international ARPU, it will make an excellent stock and has the potential for surprising upside. Notably, Pinterest discussed a partnership with Shopify on the earnings call.
As I stated in the PDF, social media buy-and-hold positions should be done at valuations below 10 P/S, therefore, I do not have a buy-and-hold position. For my current momentum play, I am going to wait to see if Pinterest holds $19 at tomorrow’s close that Knox outlines below.
I think the sell-off today was irrational but that’s never stopped the market before, therefore, I’ll give it another chance tomorrow while holding firm to the $19 stop. If it closes below $19, we’ll close our position and regroup.
Technical Analysis:
The symmetrical move of PINS recent decline that started in July compared to the first decline in May (A)=(C), coupled with the RSI positive divergence shown in the last report, technically speaking, are indicators that lead to high probability trades. However, the market’s shift in sentiment towards high beta tech stocks is unpredictable, and PINS, even with reporting a miss of $900K in revenue yet with a few upside surprises like monthly active users and adjusted EPS, was a steeper decline than anticipated.
The original analysis provided stop suggestions at $24.50 or $22, depending on your risk tolerance. We have blown through both after hours, and look to be opening just above the 161.8% extension around $19.30, creating a massive gap, and all new lows.
One thing about the market is that it hates gaps, and more times than not, eventually will fill them in. We believe the earnings report may have been an over-reaction. We are personally going to see if the price closes above the 161.80% retrace at $19 before closing the position.
Yahoo! Finance Error ..
Not sure how many people pay attention to Yahoo! Finance but they made an error and reported a miss of nearly 250% higher than the actual miss ($900K vs. $2.5M). May have not had any material impact but I thought it was important to look deeper into this.
This was confirmed inaccurate after checking Yahoo’s website more closely. i.e. it was not a different reporting source for analyst estimates, rather was a misprint.
I want to drop a quick note about my analysis published in MarketWatch this week on Apple. The company has released all iPhone 11 models simultaneously this year, so there’s a chance they do well short-term. Longer term, releasing all models is very likely to negatively impact Apple in future quarters.
I struggle to see why Apple is trading higher than its peak in 2018. Even with an earnings beat, we will see a decline in overall revenue YoY. We are seeing double digit declines in Apple’s top revenue segment, the iPhone. The effects of smartphone saturation will be even more evident when consumer confidence dips. This is why Samsung is seeing 50% lower operating margins – consumer confidence in China is at a 2-year low and pricing wars are driving prices down (a major warning sign of saturation). Apple has followed by lowering prices.
Regardless, with or without an earnings beat, Apple’s annual revenue will be lower this year than last year. Any other tech company would experience a major sell-off if reporting lower YoY revenue.
Apple has a lot of cash, but to expect a synchronistic handoff between services (or any other pivot) and the iPhone is overly optimistic.
Regarding Lyft, this company is able to report cleaner numbers than Uber. I am very bearish heading into Uber’s lock-up expiration and will personally be betting against both companies again. I have half my position in now, and will lock-in the remaining half of my short position after Lyft reports in the event we see an increase in price from Lyft’s earnings. This will be round four for me on these shorts.
Texas Instruments, widely known as the bellwether of the semiconductor space, reported a big miss yesterday on the top and bottom line. With sales down 11% YoY and a downside Q4 forecast of $3.07-$3.3B compared to the consensus of $3.6B, the stock slipped just around 10%.
Semiconductors trade like commodities in that they are highly cyclical, and the timing of the end of the cycle is typically sudden and a sharp move.
I encourage you to review the technical outlook in the Nvidia PDF that I wrote mid-September. The global outlook around the KOSPI as well as the Philadelphia Semiconductor are still in place and have not changed much, since my last writing.
In other words, the KOSPI is in a bear market with weak momentum, suggesting a lower leg, and the Philadelphia Semiconductor Index (SOXX) is still trading in an ascending wedge pattern with weakening momentum.
The US semis are crucial and we’ve now seen two warnings – Texas Instruments and Micron. Xilinx didn’t have the best quarter-over-quarter results even if they did beat analyst estimates. This quarter, Xilinx reported $833 million in revenue down from $850 million last quarter. EPS was flat at $0.94.
To highlight the SOXX ETF, which tracks the Philadelphia Semiconductor Index, you can visually see this pattern unfolding. Notice how the index has been making higher highs while the momentum indicators in the RSI and MACD are decelerating, making lower lows.
The technical evidence coupled with the recent earnings reports of Micron, Texas Instruments and today’s Xilinx suggests that this pattern should resolve to the downside.
Our primary entry target is Nvidia. This is a high conviction, long-term hold.
Also, it’s one of the strongest names in the semi sector, and any cyclical slowdown has not caught up to the sentiment in Nvidia. As you can see, its momentum is also fading as it is failing to break and close above the $200 region.
If you’re bearish on semis, the easiest way to play this position would be either short or buy a put on SMH or SOXX, which are both ETFs. The SMH tracks the VanEck Semiconductor Index while the SOXX tracks the Philadelphia Semiconductor Index.
However, SOXX has a few more names and also caps the allocations allowed, so it’s technically more diversified. Either option should be sufficient. As more earnings flow in, we should get a clear direction for the near future. In the mean time, I’ll leave you with a quote from the recent Texas Instruments (TXN) earnings call.
In the quote below, TXN states their negative results are due to a broad-based macro slowdown on the earnings call.
“I can sense that you collectively are unsatisfied with our answers, and I understand that. We have close to 100,000 different customers, and we sell about 100,000 different products. It’s difficult to pinpoint any one thing, but the sense we get, talking to those customers, getting input from them, from our sales people and all the touchpoints that we have, is that the weakness is broad-based. It’s due to macro events and specifically the trade tensions. And if you think about when there’s tensions in trade and obstacles to trade, what do businesses do? They become more cautious, and they pull back. And we are at the very end of a long supply chain, and when the ones at the very front pull back, it becomes a traffic jam. And so our sense is that is what’s happening in the marketplace. But we’ll see what other companies will report over time and we’ll get a clearer picture over the next several weeks and really quarters, because this thing, we’ve been in it for now four quarters, and it’s going to be longer than that.”
I was excited about playing the momentum for this stock last earnings season when I released the PDF at about $14 a share and it popped to $17 a share about a week after we published.
I felt confident on the probabilities of a big earnings beat because the company had released new filters that pushed it’s downloads to new highs. They also had announced beta-testing for Audience Network, a way to monetize the 190 million users outside of the Snapchat application.
Funds and institutions will pile in for Audience Network because of what it did for Facebook. However, Audience Network hasn’t opened beyond beta-testing and there hasn’t been an update since April, when the company stated it would be released in the “coming months.”
If/when this does happen, Snap will report higher revenue but I don’t see any evidence that we’re there yet. I also haven’t seen any new filters that would suggest new app downloads or viral popularity (even if short-lived, these are great for momentum plays). We now see Snap testing dynamic ads, which are popular on Instagram. These will not have an effect on earnings this quarter.
TikTok is a looming threat to social media apps, as well. However, if/when I hear anything about Audience Network officially launching, I will be an immediate buyer.
For this earnings report, I am on the sidelines for Snap. I like more confirmation from app download reports than what I’m getting right now.
However, Knox trades more on technicals and he is getting into the trade ahead of earnings. Here is his take on the situation:
SNAP Technicals
By Knox Ridley
After Snap hit my stop at $14, closing the position for nice little gain, I’m getting back into SNAP and here is why:
5 waves up (in purple) that hit all the Fibonacci points.
3 waves down from the recent high (A,B,C), and the C wave hit the 138.2% extension and is turning back up.
Just reclaimed the 10-day EMA – a show of changing momentum.
If we take the length of the uptrend (the bottom of 1- and the peak of 5)and multiply it by the Fibonacci ratios, SNAP turned up right at the 38.2% time marker, which coincides with the MACD turning up, and the Stochastic/RSI turning up.
We now have 5-waves up on the 3 minute chart when you zoom into the most recent push up. This is a tell of the bigger direction that is unfolding.
I’m going long, but cautious of the overall market, hence I’m placing a stop at $13. If you want to give it more room to breathe, I’d place it just under the .382 retrace level in black.
I’m publishing this week on Microsoft – the full copy of the article is below.
This is a stock I have a decent track record on, as I encouraged investors to consider the company during the Q4 sell-off (about a month after the company had missed earnings).
I also pointed out in a separate analysis that it would be a strong contender for the Pentagon contract. I got a lot of backlash from a few AWS bulls who said I was wrong. A few months later, the DoD announced that Microsoft was in the running and now it’s widely believed the contract is between Amazon and Microsoft.
I hope my streak continues on this stock because I’m definitely swimming against the stream in my upcoming article this week. The point of the upcoming article is to make it clear that the projections for cloud growth are not in agreement with the current rotation out of cloud. In fact, the rotation is sending the wrong message as the best gains on cloud are predicted to happen over the next three years at an acceleration of 200-300% compared to the last decade (stats below).
My readers should remain flexible and be prepared to play this either way. If cloud rallies, or if cloud sells-off – make sure to have a strategy to get back in. If other tech companies come in weak over the next year, all the better to get cloud cheap. I am personally playing the cloud market right now while understanding the market will eventually fold its hand on these high valuations. I can’t perfectly time a market, so I prefer to play on trends that I know are in their prime. If the market doesn’t behave the way I want it to, I follow my stops and get back in. My biggest drop was Nvidia during the crypto bust — which retained gains because I had a stop. And, I believe in this company so I got back in.
Keep in mind, if Microsoft has a negative surprise, cloud stocks will get rocked. I do already own Microsoft as I was vocal about its strength during the Q4 selloff but I’m playing momentum in the short-term right now, as well. I can’t find any evidence that cloud is slowing down, so I’m sticking with what has worked in the past (numbers and facts, rather than the emotions of the market).
Gartner has been accurate in the past with their unbiased analysis on tech trends. I place more weight on Gartner than IDC. In fact, IDC has already been proven wrong this year with a forecast that cloud would grow 11%. Cloud has already grown 24% in the first half of 2019 with IaaS and PaaS growing at 44% and SaaS growing at 27%, according to Synergy. (Gartner is detailed in the second chart below)
Gartner’s take on the cloud market:
If you are not in Microsoft right now, and the valuation is too rich for you at a 25+ forward PE and P/S of 6-7, then Knox sees a broader market pullback opportunity at $92 down the line. For anyone in Microsoft, he sees $128.50 as support and $146.50 as the start of a renewed bullish trend. He has more detailed analysis coming out on this soon after earnings.
My full article on Microsoft is below the technical analysisMy full article on Microsoft is below the technical analysis
Microsoft Technical Analysis
By Knox Ridley
Though MSFT is trading flat with a decelerating RSI, relative to its cloud peers, its showing some strength. In other words, while most cloud stocks are down double digits, MSFT is simply flat.
It’s trading within an ascending triangle pattern, which more often than not, resolves to the upside. If you are going to play the long side, a safe stop would be just under $128.5.
I placed a series of supports that will act as significant regions in any significant pullback. Also, even in a major drawdown, the likelihood of MSFT retracing beyond its 23.6% retrace level is slim . Above the $146.5 region, and the bull market in MSFT should extend.
I will release a more detailed report of MSFT’s long term prospects soon.
Microsoft Article:
Headline: Microsoft’s earnings report will likely make believers out of cloud-software skeptics
Subheadline: The company is well-positioned for further gains, reflecting accelerating revenue growth in the industry.
Story:
Microsoft’s quarterly results to be released this week will tell us whether fears about the cloud-software industry are warranted.
Revenue growth in the cloud sector has been phenomenal and, according to research firm Gartner, is poised to accelerate.
Morgan Stanley and Evercore ISI analysts aren’t so bullish. They downgraded some cloud companies before they released earnings. The stock market showed tension cracks last week when Workday said human-capital-management-software growth was slowing to a 20% pace. Shares of Workday, Okta and Slack Technologies, among other companies, tumbled in response.
This week, we will see if the momentum from growth to value picks up steam. Don’t be surprised if cloud companies continue to report strong earnings. The goal for investors is to tune out the noise, as cloud-revenue growth is likely to defy the odds.
In a sweet spot
Microsoft is at an inflection point for cloud software (also known as SaaS) and cloud infrastructure (IaaS). Well-rewarded revenue growth in the cloud sector has taken more than a decade to accumulate, measuring a market worth $40 billion in IaaS and $95 billion in SaaS.
However, it will take only three years to double this revenue. Although many cloud stocks will reap those benefits, Microsoft is especially well-positioned.
According to Gartner, the cloud-services industry will grow at nearly three times the rate of overall IT services through 2022. Cloud infrastructure-as-a-service will grow at 27.5% in 2019 to $38.9 billion, and will reach 76.6 billion by 2022, or nearly 100% growth.
Other areas where Microsoft excels, including platform-as-a-service (PaaS) and SaaS, will also nearly double. This helps to cement Microsoft’s IaaS market share, as Gartner also predicts 90% of organizations will purchase public cloud IaaS and PaaS from a single provider.
Although it’s likely there will be some ups and downs on a quarterly basis, the market may be surprised to find that growth across the cloud industry occurs with, or without, a perfect economy.
This has been a challenging time for tech stocks, yet Microsoft’s shares have returned nearly 29% (with dividends reinvested) for one year through Oct. 18, compared with much lower returns for Amazon.com, Alphabet and Apple
Previous earnings reports
Microsoft’s stock has performed better because its hybrid cloud strategy began to take hold in 2018, two years after the first technical preview in 2016, and this spurred faster growth than the market estimated.
Last quarter, Microsoft beat revenue expectations by $920 million and the consensus earnings per share (EPS) estimate by $0.16. The company exceeded expectations handily in the two quarters before that as well.
Microsoft will report fiscal first-quarter results Oct. 23 after the market close. The company’s fiscal fourth quarter was its best yet for commercial cloud, with revenue increasing 39% year-over-year. Azure had the strongest growth at 64%, followed by Dynamics 365 at 45% and Office 365 Commercial at 31%.
Hybrid cloud requires a closer look, and not only because it’s been showing up in the financial statements under Azure. It’s important to consider what will set Microsoft apart from other cloud IaaS providers, including Amazon, the leader, and Google Cloud. This is key to forecasting future earnings.
Hybrid cloud allows for scenarios where customers can keep their most sensitive data on their own servers while sending workloads to the private or public cloud that gain an advantage from mining data more efficiently and require improved accuracy and productivity.
Azure’s strength in offering both on-premise and cloud in a hybrid solution has prompted Amazon to chase Microsoft with recent efforts to improve its hybrid strategy. Today, Azure claims more than 95% of the Fortune 500 as customers because of its hybrid flexibility.
Security is a key concern:
Understanding hybrid provides transparency into how managers of companies with big budgets think and how they evaluate the cloud. Security is clearly a concern as on-premise servers continue to be in demand as a counterpart to the public and private cloud.
The Department of Defense (DoD) is a perfect example of an entity that would want to keep its most secure data with on-premise servers while leveraging the cloud for artificial intelligence and machine learning. Fortune 500 companies with substantial intellectual property are additional examples.
I wrote a long-form analysis on why Microsoft would be a strong contender for a Pentagon contract when pundits had zeroed in on Oracle, IBM and Amazon. The contract is worth $10 billion over 10 years.
Beyond the $1 billion in annual revenue, it’s the implications of which company the Pentagon chooses that is most important. That’s because the winner likely has the best security.
There are many instances in recent years where the DoD chose Microsoft for software and operating systems. Recently, the Pentagon awarded Microsoft a $7.6 billion contract to provide software. The Defense Enterprise Office Solution (DEOS) will provide email, calendar, video-calling and productivity tools to the U.S. military.
In May 2018, the U.S. intelligence community extended its agreement to use Microsoft products such as Azure Government, Office 365 and Windows 10 in a joint licensing agreement with Dell. At the time, Microsoft said more than “10 million government customers from every federal cabinet level, including the Department of Defense” rely on its Cloud for Government.
In November 2018, Microsoft won a $480 million contract with the DoD to bring 100,000 augmented-reality headsets into the military’s arsenal. The two-year contract will help soldiers prepare for combat training.
There were more contracts in 2016 to provide technical support to the Defense Information Systems Agency (DISA) and a contract that took effect in 2017 to provide 4 million laptops, desktops and mobile devices.
Microsoft’s advantage:
There is no evidence that cloud revenue growth will slow in the short term. There could be minor earnings fluctuations, but the trend is carrying a lot of force, with projections to accelerate two to three times faster than what we’ve seen over the past decade. Microsoft is well-positioned across all cloud segments, and has an advantage with hybrid cloud solutions and security.
The Netflix critics who point towards massive debt load and the unsustainable $12 to $15 billion annual content production costs causing a bleeding of free cash flow are not wrong to question these things. They are absolutely correct in thinking this company could be a ticking time bomb.
I’ve always avoided writing negative analysis on this company because I hesitate to think Reed Hastings doesn’t have plan. He’s one of the better entrepreneurs of the past decade as far as execution and hard-to-nail pivots.
Most naysayers refuse to recognize the wide margin Netflix has in OTT subscribers compared to the competing streaming services. This stands at 87% in the United States and 70% in developed, English speaking countries. They claim 50-60% in developed, non-English speaking countries.
Amazon Prime is supposedly in second place, yet they are entirely absent from the Top 20 most streamed shows. I don’t trust the numbers here as Prime is many things beyond OTT and some of these subscribers could have Prime for shipping or groceries, yet remain loyal to Netflix in their viewing habits. Of the Top 20 most streamed shows globally, Netflix claimed 19 of them (although the number should be adjusted for 17 shows as Disney’s Marvel counted for two of the rankings).
Despite the noise of new OTT entrants, the projections from unbiased analyst firms continue to put Netflix at a wide margin with 87% in the United States.
The real question is what will Netflix’s penetration be globally? Half of the world does not have broadband and many geos that do have slow speeds. I believe Reed Hastings is gunning to be the first truly global media company. The barrier to entry is high for global and the only other streaming service that has the ability to license content internationally is Disney.
If Netflix reduces its content bill over time (the company has stated this is the peak spending year), and meanwhile, simply keeps doing what it’s been doing on the execution front, it has the possibility to reach the majority of global households.
I do think they’ll have to offer a reduced subscription fee for catalog content and keep the higher subscription fee for premium and new content in order to fit global household budgets, but the numbers are there .
The slow proliferation of fast broadband and OTT has the market somewhat confused right now. The Untied States is far ahead with OTT accessibility and this has skewed how investors see this opportunity. They are not considering that Netflix’s biggest headwind is global broadband speeds. They are thinking this is a turf war in the United States, and therefore, the debt load looks prohibitive for only 150 million households.
I don’t get to choose the titles of those articles. If I could have chosen the title, it would have been “Get Netflix When It’s Dirt Cheap and while Broadband Penetration is Low.”
Below is some technical analysis from Knox on entry scenarios. If we reach his target number, we will update you.
This isn’t an earnings call. Netflix could beat earnings. I just think it’s pretty high risk with the market perception around OTT subscription services right now with Apple, Comcast, etc.
p.s. I have a PDF coming for you tomorrow on Telaria, the small cap focused on Connected TV ads.
Netflix Technical Analysis
by Knox Ridley
The Very Big Picture (Weekly Chart)
Going back to the beginning of its trading, the weekly chart of Netflix is interesting. To see a stock as explosive – in both directions – like Netflix, follow a uniform trend channel, as well as adhere to extensions on such a large time frame, actually shows a sense of order to its path upwards.
The blue roman numeral count shows the very large degree cycle count, which operates on a time frame that is not as useful to most investors. That is, unless we are coming close to the end of a wave and the beginning of another, which I do not see happening just yet.
My main count has us still within this larger degree 3rd Wave in blue roman numerals. This means, if we go to a lower degree of time within this cycle count, we are looking at the primary count in orange. This count will be more useful to us because we have topped out in Wave 3 and are correcting into Wave 4.
Third Waves are typically accompanied with a trend’s peak momentum, which is what we are seeing when looking at spike in the MACD. Being in a 4th Wave, there are a number of price clusters that could find final support.
There’s a confluence of extensions highlighted on the graph: the pertinent extensions to the cycle count in blue roman numerals are on the right in blue; (2) the extensions of interest to the primary degree count in orange is on the left in orange; (3) the 23.6% retrace level to the internal red count is also in red.
As you can see, there’s a confluence with these important points, which will be major support regions in any significant pullback. Also, keep in mind the 23.6% retrace level is on the chart to offer perspective on just how far Netflix can reasonably fall.
Please keep in mind we are talking about a primary degree count, which started in 2005, and in 2019 we are just now completing Wave 3. So, this correction could take weeks to months to play out. In the meantime, we can play the momentum on a lower degree, which is highlighted below.
Close Up
Zooming into the 2 hour chart, we get a better understanding of specifically where we are within this larger trend that is unfolding. We are in an A,B,C correction, where (A) bottomed at the December low in 2018, (B) peaked in June of 2019, and we are currently in the final (C) wave, which appears to be unfolding in a 5 wave pattern, and is highlighted by the red letters red.
Notice the RSI making higher highs, which is putting it into overbought territory (above 70), while the price action is making a lower higher. This is highlighted with the red circles, and is a negative reversal patter, which suggests more downside is on the horizon.
The final targets I have for this (C) wave push, is at minimum the $227.50, which will close the gap-up from January of 2018. However, the more likely target will be the A=C price around $212-$211. I would be interested in seeing how the stock holds support around this region, and see how the price behaves before committing. If this level does not hold, then the extensions in the weekly chart will come into play, and we could be in for a more aggressive correction.
Miracles do happen, and if we close above the $335 resistance level, which is highlighted just below the green arrow, I would consider Wave 4 over, and for us to be in the primary 5th wave push to all new highs. We feel this is unlikely due to the headwinds the company faces – some that are very real headwinds and some that are driven by perceptions.
