It's a struggle to find great entry point in consumer tech stocks: Evercore ISI's Mahaney

Key Concepts

• Dislocated High Quality Names (DHQs): Stocks that are trading significantly off their highs (20-30%) or at a discount to their growth rate, representing potential investment opportunities.
• Return on AI Spend (ROAI): A metric to assess the impact of Artificial Intelligence on employee productivity, specifically looking at revenue and operating income per employee.
• Hyperscalers: Large cloud computing providers, specifically mentioned as Microsoft, Amazon, Google, and Meta.
• Consumer Utilities: Companies providing essential services to consumers, often with stable and predictable revenue streams.
• Dot Bubble: The period of rapid growth and subsequent collapse of internet-based companies in the late 1990s and early 2000s, characterized by extremely high valuations.

Valuation Concerns and Investment Opportunities

Mark Mahaney, Head of Internet Research at Evercore ISI, discusses his current perspective on the valuation of companies within the consumer internet and broader tech sectors. He notes that after a significant rally over the past three years, finding "dislocated" investment opportunities has become more challenging.

Identifying "Dislocated" Stocks

Mahaney defines "dislocated" stocks as Dislocated High Quality Names (DHQs). These are companies that exhibit one or both of the following characteristics:

• Significant Price Decline: Trading off 20% to 30% or more from their recent highs.
• Valuation Discount to Growth: Trading at a discount to their growth rate, meaning their price-to-earnings (PE) ratio is lower than their earnings growth rate.

He cites Uber and Google as examples of companies that presented such opportunities earlier in the year. Google, for instance, was trading at 15 times earnings, which Mahaney considered a dislocated valuation for a high-quality company with earnings growth in line with or faster than the market.

Current Market Landscape

Currently, Mahaney finds fewer such "dislocated" opportunities in the internet and tech spaces. He views Meta as a "great compounder" with a reasonable valuation at 23-24 times earnings, especially when compared to the broader market. However, it doesn't present the "dislocated" entry points he actively seeks.

Amazon is identified as the closest to a dislocated stock, despite recent performance and a recent outage. Mahaney believes Amazon has underperformed, creating an opportunity if AWS growth can re-accelerate, which he anticipates.

Impact of AWS Outage

Regarding the recent Amazon Web Services (AWS) outage, Mahaney states that its long-term impact is not yet clear. He acknowledges that AWS has experienced significant outages before, including a seven-hour outage a year prior. While he doesn't expect this outage to be as prolonged, he notes that it occurs at a time when AWS is perceived to be losing market share to competitors like Google Cloud and Azure. Therefore, he emphasizes the importance of AWS recovering fully and quickly to secure incremental clients. He also mentions that the stock's performance was not significantly impacted, trading up 1.3% at the time of the discussion, though it might have performed better without the outage.

Valuation Per Employee and Return on AI Spend

Mahaney addresses the concern of high valuation per employee, citing an example of $123 million in valuation per employee for companies like Apple and Nvidia. While acknowledging that this figure might seem high, he prioritizes fundamental analysis.

Focus on Fundamentals: ROAI

His primary focus is on the Return on AI Spend (ROAI), which he measures by examining revenue per employee and operating income per employee over the past couple of years. He observes a significant "gap up" in both revenue and operating income per employee for the four major hyperscalers (Microsoft, Amazon, Google, and Meta) starting in 2023.

Mahaney attributes this improvement to two main factors:

1. Aggressive Headcount Management: These companies have become more efficient in managing their workforce.
2. AI Deployment: The implementation of AI has demonstrably improved the productivity of their employees.

Market Cap Analysis

When considering market capitalization, Mahaney looks at PE ratios. He finds the valuations of Google and Meta to be "very reasonable" as they trade at a modest premium to the market for what he considers "enduring consumer utilities." He contrasts the current market with the dot-com bubble, where he saw PE multiples of 50 to 100 or higher, which he does not observe in major tech names today.