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Welcome back. I’m just getting my bearings after two weeks far away from the markets. Much to discuss; I’ll start with a return to the topic of competition and the stock market, which has been in the news lately (if, like me, you’ve had your eye out for it). Anyway, if you have thoughts, send ’em along: Robert.Armstrong.
Faang investors are (mostly) right when they downplay antitrust risk
This story, in yesterday’s FT, caught my attention:
The UK competition regulator has called for Facebook to sell online image platform Giphy, which it bought for $400m last year, after provisionally finding competition concerns following an in-depth investigation . . .
The Competition and Markets Authority on Thursday said it believed Facebook’s tie-up with Giphy would harm competition between social media platforms and remove a potential competitor in the display advertising market.
Now, the competition regulator of a little country such as the UK might not matter much to a trillion-dollar global company like Facebook. And a $400m acquisition of a GIF making company certainly doesn’t matter much. What might matter, though, is a broader atmosphere in which global competition regulators seem to have their eye on Big Tech. The CMA news is the latest evidence that we are living in just such an atmosphere.
With the most dominant technology companies trading between 30-ish (Facebook, Google) to 70-ish (Amazon, Netflix) times trailing earnings, are investors worried enough about this? Is the risk priced in?
It helps to make clear distinctions. People who own Big Tech stocks should think about merger policy as distinct from other, more far-reaching forms of antitrust enforcement policy. Mergers can be simply blocked and recent ones unwound. It may or may not happen, but everyone knows how it could work.
Enforcing broader pro-competition rules against dominant companies is tricky as hell, as global regulators’ experience with Microsoft over the past three decades shows. Breaking up a truly dominant company hasn’t been tried since AT&T in 1984 (and a tidy US telecoms oligopoly has re-formed in the wake of that exercise). It doesn’t mean enforcement above and beyond blocked mergers won’t happen, but it’s going to be messy.
Second, Big Tech — even understood as the five or six “Faang” companies — are very diverse in structure and competitive position. So you have to think about each type of enforcement (“merger” and “all other”) in specific contexts.
Facebook, perhaps uniquely, looks vulnerable on both fronts. Acquisitions are more important to Facebook’s growth than to any other Faang company; Instagram (bought in 2012, for $1bn) and WhatsApp (2014, $16bn) are huge businesses and key to the group’s future. The emergence of Instagram, in particular, shows that new competition does arise in social media. The idea that Facebook might not be able to co-opt it by acquisition in the future is a real concern. It is also clear that Instagram and WhatsApp could be forcibly split off by a zealous regulator. It is not only on future deals that Facebook is vulnerable.
Accordingly, Facebook’s shares did get a little lift in June, when a US federal judge dismissed two antitrust lawsuits against Facebook, one brought by the Federal Trade Commission and another by a coalition of states. But while the judge was unconvinced that Facebook abused its alleged dominance in the social media market, the FTC was “on firmer ground in scrutinising the acquisitions of Instagram and WhatsApp”. The judge gave the FTC the opportunity to refile the suit, and then extended the deadline until next Thursday. The game is still on.
Is the market worried enough about Facebook and antitrust? Well, the company does trade at half the multiple of earnings of Amazon, a company with a roughly comparable long-term annual revenue growth rate (30 per cent or so). Some of this gap could well be down to the fact that Facebook’s future growth trajectory is less secure from both competition and regulators than Amazon’s. But then Google owner Alphabet, a rock-solid competitive fortress that would be tricky to slice up (where are the seams?), and which European regulators have tried and apparently failed to constrain, trades at a similar multiple as Facebook. So it is hard to know how much antitrust risk is in Facebook’s price.
Part of the issue is that Facebook’s antitrust vulnerabilities are hard to quantify, so even if they are significant, they are subject to what I hereby dub Armstrong’s rule:
If any risk to the future profitability of a growing public company is impossible to sensibly quantify, that risk will be ignored by investors as long as a broad bull market persists.
Amazon is the most interesting contrast case to Facebook. With Amazon, the market seems to be ignoring the antitrust rumblings, and this approach seems to me to make good sense. The company makes acquisitions, but is not dependent on them for growth. Its largest acquisition ever, Whole Foods Market, bought in 2017 for $13bn, is an experiment, not a core strategy.
And if you separated Amazon’s two biggest businesses, online retail and Amazon Web Services, the total valuation of the company might well go up: the retail business might keep the current valuation, and the world’s largest and most dominant cloud computing company garner, oh I don’t know, a zillion times earnings (the two businesses make about equal contributions to the company’s operating earnings).
Indeed, some wise-ass activist could buy a bunch of Amazon shares and agitate for this. Amazon’s response would undoubtedly be a hilarious display of bristling arrogance that would make the whole exercise worth it. Someone please do this.
But there is an Amazon break-up that does make sense, at least at a high level of abstraction, as my colleague Dave Lee pointed out to me. Amazon’s growing warehouse-and-delivery operation serves as the logistics provider to an increasing number of the company’s competitors in ecommerce — for the simple reason that Amazon’s distribution infrastructure is faster and cheaper than anyone else’s, and they are happy to share it, for a price (see Dave’s excellent recent piece on this topic).
This odd relationship with competitors is exactly what one-time academic Lina Kahn wrote about in the paper that landed her a job as chair of the Biden FTC:
Amazon has translated its dominance as an online retailer into significant bargaining power in the delivery sector, using it to secure favourable conditions from third-party delivery companies. This in turn has enabled Amazon to extend its dominance over other retailers by creating the fulfilment-by-Amazon service and establishing its own physical delivery capacity . . . Retail competitors are left with two undesirable choices: either try to compete with Amazon at a disadvantage or become reliant on a competitor to handle delivery and logistics . . .
The fact that Amazon competes with many of the businesses that are coming to depend on it creates a host of conflicts of interest that the company can exploit.
I’m broadly sympathetic to the view of economic liberty that underlies Kahn’s criticisms of Amazon: having just a few huge companies in charge of the most important bits of the economy is a very bad look for a free country. But that’s not our concern here. Our concern is whether the government splitting apart Amazon’s logistics/delivery business from its ecommerce business is a risk to the company’s stock price, and I’m not sure that it is.
First, it would be a nightmare to do. What is Amazon allowed to keep — the warehouses, but not the trucks, planes and new Kentucky air hub? Amazon’s ecommerce is all logistics, in a sense. And if you are going to spin off Amazon’s ecommerce infrastructure, shouldn’t Walmart have to spin off its bricks-and-mortar distribution operations and share them with competitors? Walmart still sells twice as much stuff, after all (some $500bn in annual product sales globally, to Amazon’s $230bn).
Second, what part of Amazon’s value is in the delivery business? That bit might be described as a new, more specialised, more efficient FedEx or UPS. Those two businesses trade at multiples of 18 and 13 times this year’s earnings, respectively. If Amazon delivery could be split off, even if it took some of Jeff Bezos’s ability to suffocate competitors, it might increase the sum-of-the-parts valuation in the near term, as ecommerce and AWS burn brighter still. It just doesn’t seem like something Amazon investors need to worry about very much.
One good read
I’m much relieved to discover that a big study has found that middle age does not doom me to a slow metabolism. Humans burn calories at about the same rate from age 20 to 60, for both men and women, once adjusted for body weight and muscle mass. To celebrate the news I plan to drink a gallon of beer this evening. Cheers.