NEW FRONTIERS
Technology stocks are hot
at the moment and deservedly so. Over the past year, the combined market
valuations of the 20 listed global technology companies that we’re watching increased
by +60%, which for this list of companies represents an increase in value of
+US$2.5 trillion.
The
top seven gainers on our list made up 75% (US$1.9 trillion) of this
extraordinary uplift in valuation: Amazon (up US$350bn); Tencent (up US$315bn);
Apple (up US$300bn); Alibaba (up US$260bn); Microsoft (up US$245bn); Alphabet
(up US$225bn); and Facebook (up US$180bn).
We
remain buoyant on the outlook for the technology sector from an earnings
perspective but feel more circumspect with respect to valuation.
While
we still see merit in the investment case behind these technology leaders, we
believe annualised uplifts in valuations are more likely to average in the
order of +10% in future. This is why our strategy has transitioned in favour of
targeting the up-and-coming emerging global technology leaders.
Compelling investment case
to back innovation and technology
Our
research over the past few years has highlighted the technology advancements
underway in China, so it came as little surprise that two Chinese companies
(Tencent and Alibaba) made it into the top seven global stock performances
listed above. In addition, Ping An - a leading Chinese financial services group
with businesses in insurance, banking and healthcare - has transformed its
business through financial technology (known as fintech), and its market value
has increased by +US$110bn on the back of this shift in emphasis.
As
China's urbanisation continues, companies will increasingly turn to technology
to help overcome a growing shortage of skilled labour. There are two sectors in
China that we believe will become increasingly dependent on technology
innovation:
Manufacturing:
Incorporating
robotics and artificial intelligence in smart manufacturing processes should
help to lift productivity.
Healthcare:
China
does not have enough skilled doctors, surgeons and nurses to cope with the
accelerating demand for improved healthcare services. Some of these services
will increasingly be delivered by artificial intelligence applications.

Technology
adoption is as important for the world's developed economies as for China. The
game changer in favour of tech companies has been the development of
telecommunications and semi-conductor technology, which has enabled the
construction of a robust modern infrastructure of broadband networks and data
centres.
This
has in turn facilitated the growth of internet-based services such as ecommerce
and advertising, and the development of new business models such as Software as
a Service (SaaS) and on-demand entertainment. Companies in these areas are now
experimenting with and implementing artificial intelligence software that
should increase productivity and efficiency in data processing.
In
our view we are at a point of inflection in the technology cycle where the
growth rate of profitability from the global leaders may slow. We therefore
believe the time is right to add breadth and depth to our technology
investments through a portfolio of emerging technology leaders.
Emerging technology
leaders add scope for growth
Over
the past six months we have reviewed over 60 global technology companies
covering eight key technology segments: 1) E-commerce & Digital Payments;
2) Digital Media & Advertising; 3) Digital Content & Gaming; 4) Cloud
Computing & Software as a Service (SaaS); 5) Artificial Intelligence; 6)
Cyber Security; 7) Robotics; and 8) Semi-conductors.
Our
goal in this search was to identify a group of global leaders, emerging leaders
and "disrupters" that can provide investors with a well-diversified
exposure across these eight themes, and where the investment case is supported
by a fair or attractive valuation.
The
combined current market value of our enlarged list of around 30 emerging
technology leaders is around US$1 trillion. Over the past year the valuation of
this group of 30 companies increased by around US$300 billion - a miserly 16%
of the US$1.9 trillion uplift in value from the top 7 leaders listed above. We
believe there is greater upside to earnings and share price of the emerging
leaders over the next few years. From our review we identified a short list of
emerging leaders, from which we highlight five below.

Electronic Arts (EA US)
The
company develops games across a plethora of themes such as sport, life
simulation, arcade, adventure and first person shooting/war. The company's
strategy is to capitalise on the gaming industry's shift from physical to
digital distribution. By offering full-game digital downloads, subscriptions,
multiplayer events, and extra content, EA has generated more consistent sales
and higher user engagement. While EA's valuation is somewhat full we believe it
is well positioned to deliver solid revenue growth and margin expansion over
the medium-to-long-term.
Salesforce.com (CRM US)
The
largest pure-play vendor in the front-office Software as a Service (SaaS) space,
its products are customer relationship management (CRM) applications used by
sales reps, marketing agents, and service professionals. Several tailwinds are
behind Salesforce's cloud-based platform including a growing number of
connected devices and channels and the need for businesses to be agile and
mobile with customer-facing activities. We see the company continuing to take
share with its market leading product portfolio. The valuation looks fair.
Weibo (WB US)
China's
third-largest social platform (similar to Twitter), Weibo is differentiated by
its open and interest-driven (e.g. news and celebrities), rather than
relationship-oriented, network. It monetises its user attention through
advertisements, and has small and growing membership, data licensing and
commission-based businesses. Expansion into lower-tier cities in China is
driving continued user growth, while revenue per user is growing due to
improved content targeting and ad bidding systems. Investor expectations that
growth in both user numbers and Average Revenue Per User (ARPU) will slow
significantly in the coming years look conservative.

Splunk (SPLK US)
A
leading provider of data analysis software, Splunk is ideally placed to help
enterprises make sense of the exploding volumes of data. SPLK offers a patented
software platform that collects, indexes, and manages data regardless of format
or source, enabling such data to be analysed for operational intelligence,
application management, security and compliance, and web analytics. SPLK
delivered an impressive 3Q18 result, with billings up +38% for the quarter
driven by subscription-based products as the company makes the transition from
a perpetual to subscription model. Taking a long-term view, SPLK's high
valuation fairly reflects its rapid earnings growth rate.
Flex (FLEX US)
Flex
Technologies is a contract manufacturer of electronics and consumer goods that
has started to differentiate itself by helping customers accelerate the process
of getting new products from design to delivery. The valuation looks attractive
if - as analysts expect - earnings-per-share (EPS) growth sustainably picks up
from the modest/volatile rates of the past. Flex delivered a strong 2Q18
result, with all segments exceeding expectations, as the company continued to
deliver on its Sketch-to-Scale strategy and transform its portfolio of
offerings.
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Rob Mercer
Head of Private Wealth Research
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