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First-quarter earnings season wrapped up last week for the biggest technology companies, and we've learned a few things.
Mark Mahaney and Amit Daryanani, two tech analysts at RBC Capital Markets in San Francisco, sat down Friday morning with 10 reporters to discuss the big themes from earnings reports and to make predictions for what's to come. (See their ratings below.)
There are still plenty of tech companies to announce results, but most are smaller. Among internet names, Chegg reports after Monday's closing bell, followed by GrubHub and Overstock.com on Tuesday, Zynga on Wednesday and TripAdvisor, TrueCar and Yelp on Thursday.
Shares of each of those companies have dropped in the past year. Meanwhile of the five tech giants — Alphabet, Amazon.com, Apple, Facebook and Microsoft — all except for Apple have seen shares increase (although in the case of Microsoft, just a little).
That brings us to the first of our five takeaways from the RBC breakfast.
1) The rich are getting richer
Or as Mahaney, RBC's internet analyst, describes it: "You're having a continued separation of the haves and have nots." The leading internet companies are consolidating their control at the expense of smaller rivals. While Google and Facebook continue their steady growth in online advertising, Twitter is struggling mightily to capture its share of spending and Yahoo is on its last legs.
Amazon is crushing eBay in e-commerce. And even high-growth businesses with big brands like Yelp and Pandora have gotten pummeled by investors on continued concern that the dominant companies will overwhelm them.
Within digital advertising, Mahaney expects this dynamic to be magnified in 2016 because of the presidential elections. Of the $6 billion projected to be spent promoting candidates, RBC predicts $1 billion will flow online, with Facebook and Google grabbing the majority of the dollars and Twitter perhaps benefiting as well.
2) AWS is even bigger than it looks
Amazon Web Services is flexing its muscles, and legacy hardware vendors are feeling the pain. First-quarter revenue at the cloud-computing business surged 64 percent to $2.6 billion, and its operating margin increased to 28 percent from 17 percent a year earlier.
When companies rent AWS offerings in the cloud, it means they're buying far fewer servers and storage arrays, resulting in less demand for physical boxes. Daryanani, who covers hardware, says this massive switch, which Microsoft and Google are also pushing, is very damaging to his universe of companies.
Based on his discussions with vendors, AWS accounts for 7 percent of the data storage market, but when factoring in the cost savings of going to the cloud, it's capturing more like 25 percent of the available business.
"That's a huge drag," he said.
3) China is getting more difficult
Much of Apple's earnings misfire was tied to a 26 percent slump in revenue in Greater China, which includes Taiwan and Hong Kong.
Daryanani said extended upgrade cycles are a problem globally because it's getting harder to add must-have new features, especially for owners of the iPhone 6, Apple's most successful phone ever. In China, it's even more apparent because the country lacks the carrier subsidies that make upgrades more affordable.
"These phones are good enough, great enough, that maybe you don't need to change them every two years," Daryanani said. "China may be a magnified-on-steroids version of that issue."
China has never been friendly to U.S. internet companies, and Mahaney doesn't expect that to change, though they are generating an increasing amount of revenue from Chinese advertisers looking to expand globally. Still, Mahaney does see some reasons for optimism.
In an e-commerce survey RBC conducted of Chinese consumers, Amazon showed up as the fourth-most popular place to shop, albeit way behind China's top three brands, Mahaney said. Then there's Google's Play Store, which is the way Android owners outside of China buy apps for their smartphones. Play isn't currently in China, but Mahaney says that could eventually change.
There still hasn't been an IPO for a U.S. venture-backed tech business in 2016, with Dell's security unit SecureWorks debuting last month as the only company in the industry to test the markets.
Mahaney says that pre-IPO companies with solid financials and an attractive growth story should look at Facebook and Amazon as a sign that investors have some appetite for risk. Facebook trades at the astronomical ratio of 73 times earnings while Amazon commands a stock market value in excess of $300 billion despite its notoriously low margins.
"The market is showing it is willing to take pretty long-term perspectives on companies that execute well," Mahaney said. "Our pitch to private companies is the public market waters are warming."
Not that Mahaney expects the Unicorn floodgates to open. He acknowledges that of the 100-plus VC-backed companies valued at $1 billion or more, there's "a small percentage that will be able to successfully go public."
And from there how many will be good investments? Mahaney's prediction: "Less than five."
The one big name on file is enterprise storage and computing vendor Nutanix, which falls in Daryanani's purview. Nutanix has been on hold waiting for the IPO window to reopen, and "beyond that there's not a lot in this space," Daryanani said.
5) Macro looks OK
Mahaney's big takeaway looking across the internet spectrum is that concerns about a macro-economic slowdown don't seem to be materializing. Online advertising, retail and travel are showing solid growth, indicating that whatever fear was apparent in the fourth quarter has largely dissipated.
His evidence is Google, which continues to put up advertising growth near 20 percent, accelerating growth at Facebook and Amazon and consistent bookings at Expedia.
"Nobody's calling out macro weakness," Mahaney said. "Secular demand trends are very much intact."
Mahaney ratings: Alphabet (Buy), Amazon (Buy), Facebook (Buy), TripAdvisor (Hold), TrueCar (Hold), Yelp (Buy), Pandora (Hold), Twitter (Hold), eBay (Hold), Expedia (Buy)
Daryanani ratings: Apple (Buy), IBM (Hold), NetApp (Hold), Hewlett Packard Enterprise (Hold)
Correction: This story was revised to correct that the SecureWorks IPO was in April.