Apple, Amazon, Facebook and Alphabet/Google (‘Big Tech’) make up nearly 20% of the entire US market capitalisation by now. As a result, clouds may gather on the horizon for Big Tech in the shape of anti-trust prosecutions, increased regulation, and the prospect of adverse tax policies.

Key points : 

  • Anti-trust prosecutions, in particular in the United States, probably represent the most high-profile threat. However, previous enforcement actions over the past century suggest that shareholder value need not necessarily be impaired.
  • Increased regulatory oversight looms on the horizon, too, even though in the case of IBM and Microsoft in the US these measures have failed to dent corporate profitability. In Europe, however, regulations are developing that are potentially more targeted and may pose a medium-term risk for investors.
  • Changing tax policies in the US and Europe pose perhaps the most misunderstood threat to Big Tech’s asset-light business model. That said, the political appetite to pursue such measures, especially in 2021, appears low.
  • On one hand, the ‘move fast and break things’ business model is under threat, potentially limiting tech companies in their ability to use M&A to sustain high rates of growth over the forecast horizon. However, as Apple and Microsoft have shown, high free cash flow generation combined with unlevered balance sheets allow them to invest and transform their businesses while at the same time driving shareholder value via dividends and share buybacks.
  • For investors, this suggests that pivoting exposure to include companies and segments still in the midst of their growth phase can boost returns when paired with more mature segments in the growth spectrum.

The Rise of Big Tech Dominance

With Netflix shaping our entertainment choices and Zoom putting faces to our conversations during this extended period of social distancing, the mobile digital revolution that began with four companies in the early days of the 21st century has acquired new players.

The century began with the retail disruption of Amazon.com that accelerated rapidly once Apple’s launch of the iPhone in 2007 put a computer in everyone’s pocket.

Google’s introduction of the Android operating system arguably succeeded in spreading this concept globally and across socio-economic strata, overtaking traditional media with its internet based advertising model.

With a computer in everyone’s pocket, Facebook’s success effectively connected large swaths of the world via social media.

Thus, over the first 20 years of the 21st century, ‘Big Tech’ – Amazon, Apple, Facebook and Google (Alphabet) – have steadily seized a growing share of the global economy and global financial markets as well.

Indeed, while Apple used the mobile digital revolution to reinvent itself from a beleaguered personal computer maker in the 1990s, the dominant player in the original digital revolution, Microsoft, has similarly used it to transform itself, moving from PCs to the ‘cloud’.

It is this perceived dominance of Big Tech that has attracted the attention of regulators and tax authorities around the world.

Anti-Trust Prosecutions: A Threat or an Opportunity?

Since the US Department of Justice, the Federal Trade Commission and a slew of US States Attorneys General filed anti-trust or anti competition suits against Facebook and Google in recent months, concern that these prosecutions may hamper them commercially has understandably grown.

Indeed, two high profile anti-trust prosecutions in the technology realm have coincided with poor stock market performance. This was the case for IBM in 1981, the dominant mainframe computer provider of the time, and Microsoft in 1999, the leading source of operating systems for the personal computer market.

However, those correlations were likely more coincidences than the cause of the poor performance of either former market leader. Instead, the timing of these prosecutions came at the height of each company’s market dominance, but more importantly it happened as the industry was going through a transformational shift – from mainframes to PCs for IBM and from desktop to mobile for Microsoft – for which both companies were ill-equipped.

Looking at the prosecutions of Standard Oil (1911) and AT&T (1982) may provide an alternative and likely more relevant parallel for the threats facing Big Tech. While both companies were eventually broken up, contrary to Microsoft and IBM, they actually prospered following the judgements against them.

The progeny of Standard Oil, including Exxon-Mobil and Chevron continued to dominate the energy sector for decades to follow. Indeed, as energy intensity grew in the United States post-WWII, these companies remained among the largest American companies in terms of revenues and profits into the 21st century.

Similarly, following the breakup of the AT&T monopoly in 1982, the ‘Baby Bells’ that were spawned benefited from the telecom revolution that laid the foundations for cable, internet and wireless telecom solutions in the decades to follow. Even immediately after the break-up of the telecom monopoly, AT&T descendants outperformed the broader market handily in the years that followed.

Thus, the four high-profile examples of anti-trust prosecutions suggest that industry maturity may be a more important consideration than the prosecution itself. For mature industries subject to disruption – like mainframes and PCs – the prosecutions coincided with the industry’s peak and eventual decline.

In the case of Standar d Oil and A T&T, the firms that were created out of their break-up benefitted from supportive industry dynamics in the wider economy allowing the resulting companies to perform well for shareholders as they were forced to manage and deploy free cash flow more efficiently than their predecessors, who could simply exploit their monopolistic power.

US regulatory risk: Historically ineffective…

Prior to the anti-trust prosecutions of IBM and Microsoft, both had been subject to ‘consent decrees’ in which they voluntarily curtailed their activities in certain arenas in an attempt to limit their market power. For IBM, the first consent decree – restraining its room to manoeuvre in the server market – was issued as far back as 1956, well before the 1980 prosecution. Microsoft agreed to a consent degree in 1994, again well before its 1999 prosecution which limited its ability to tie products to the sale of its market-leading operating system, Windows.

Indeed, since 2012, Google has been subject to a series of consent decrees that sought to constrain its power. However, given the recent anti trust filings, like with IBM and Microsoft before, it appears that these regulatory steps will hardly disrupt the growth in Big Tech’s dominance in their existing business lines.

Admittedly, recent legislation introduced in the US Senate seeks to widen the grounds that can preclude companies, and Big Tech in particular, from pursuing acquisitions that ‘block others from a fair chance to compete even before a monopoly results’.

Though doing little to target the outsized profits earned, the bill appears to seek to limit the ability of Big Tech (and others, admittedly) from deploying that free cash flow in a manner that limits future competition, perhaps even in nascent industries in which companies are investing. In the long-term, this may limit their growth trajectory driven by acquisitions (e.g. Facebook and Instagram) and force them to pivot to innovation focused growth drivers, much as Apple and Microsoft were forced to do as their core businesses reached saturation.

Regulatory headwinds are likely to show up as revenue growth headwinds because rising data protection results in more restrictions on how consumer data can be monetised. This could put downward pressure on ad pricing.

Indeed, during its Q4 2020 earnings call, Facebook talked about its business facing “significant uncertainty” in the second half of 2021 due to the “evolving regulatory landscape” and Apple’s recent changes in its privacy policy. The lower visibility due to increased regulatory pressure could reduce valuation multiples, as Facebook has seen in recent years.

EU/UK regulatory risk: Potentially a bigger concern

US regulatory efforts have been, at best, able to slow but not derail the growth trajectories of actual and perceived monopolies, while EU and UK regulatory efforts have been more targeted and arguably more effective.

Historical approaches by the EU anti-competition regulator and new proposals by both the EU and UK regulators can provide investors with context as to the direction of regulatory efforts looming in Europe.

Whereas the US has typically sought breakup as a remedy, Europe’s approach has been instead to regulate the exercise of monopoly power.

In the telecom space, identifying collusion and the exercise of monopoly power in the pricing of telecom roaming fees on the continent, the EU passed legislation effectively to undermine carrier monopoly power, first by regulating the fees and then by eliminating roaming fees in the EU altogether.

Similarly, the EU has capped credit card interchange fees (fees retailers pay to accept a credit card transaction) to stymie the market power of the dominant card issuers, Visa and Mastercard. The move has limited fees to 0.2%/0.3% for debit/credit transactions compared to the 1.5-2.0% in the US currently.