President Trump's proposed tax reforms may incentivize U.S. multinational companies to bring cash back to the U.S., potentially setting off a frenzy of mergers and share buybacks. However, it may also increase spending on some of the biggest trends in technology.
Cloud computing is one such area where companies are likely to increase spending over the next several years, as companies look to reduce operating costs and increase flexibility. Research firm IDC recently noted that worldwide spending on the public cloud -- the areas where the largest tech conglomerates mostly reside -- is expected to reach $122.5 billion this year, an increase of nearly 25% over 2016 spending levels.
By 2020, IDC expects that spending to reach $203.4 billion worldwide, indicating there is much more room to run as companies shift their computing habits, leaving opportunities for investors.
"Some of forecasts we've seen -- for example, Goldman -- shows cloud spending from 2016 to 2020 will quadruple," said Exencial Wealth Advisors senior analyst Rich Erwin, who helps handle $1.6 billion in assets under management. "Last year, overall spending was around $32 billion and maybe $135 billion or so is devoted to the public cloud, which is the real growth vehicle."
That growth is expected to largely be captured by the largest companies, giving an opportunity to investors to concentrate their bets and generate outsized returns if it comes to fruition.
"I've seen numbers that in roughly ten years, Microsoft will have between 25% and 30% of its revenue and operating income from cloud services business," Erwin added. "It's a $3 billion business now, but it has the potential to be really big. It's the biggest trend in technology now and will be for the next decade."
What follows below is a Q&A with Erwin about where investors should look for cloud computing stocks to buy. It has been lightly edited for brevity and clarity.
TheStreet: How much money can we expect to come back from overseas if we get a repatriation holiday?
Erwin: At Exencial, we're expecting about $200 billion to come back in the first year of the holiday. Much of that is in companies like Apple (AAPL) , Cisco (CSCO) , Alphabet (GOOG) (GOOGL) and Microsoft (MSFT) .
TheStreet: Where does that money go?
Erwin: The money will likely go to stock buybacks and M&A deals -- we think the majority of that cash will be targeted for those activities.
TheStreet: Then what makes you bullish on some of these companies that are tied to cloud computing?
Erwin: Alphabet, or Google, has around $26 billion in free cash flow and they spend $14 billion in research and development spending, so they're not really dependent upon the money coming back -- they're already highly profitable.
TheStreet: What do you like about each of these companies?
Erwin: Google is growing faster than Amazon (AMZN) Web Services (AWS), but from a smaller base. Where they're winning is from their developer base with apps and software. In the tech community, they're so well respected. What they are doing with autonomous vehicles shows they will continue to spend on the cloud. With Diane Greene leading the business and them cutting prices to keep up with Amazon, it will make it more interesting for companies looking to move to the cloud to try them out.
They also do wonderful things with artificial intelligence and machine learning that developers love. EOG Resources EOG has made a big move into technology, using advanced learning and machine learning, whereas others in their field haven't done that yet. This shows that companies are trying to optimize their profitability and it's going to come from the cloud.
TheStreet: Tell us about Amazon and why you like it.
Erwin: You have the three big players that have their own unique strengths, and it's possible that if any of the big three lose market share, it's Amazon, since you have two adapt competitors. But there's nothing that's on the horizon that shows AWS could be knocked down a notch. It has really great margins and will likely improve them over time.
As they continue to build out the infrastructure, they can scale and still expand margins, despite cutting prices.
TheStreet: Microsoft is generally regarded as the second largest player in the space, with its Azure offerings. What's so appealing about it?
Erwin: You're right, Microsoft is number two and they're doing pretty darn well here. They have a chance, with the cloud, to move from a mid to high single-digit [revenue] growth rate to a double-digit growth rate and have a meaningful impact on their business.
But, it's just one of the many reasons we like Microsoft.
TheStreet: These are mostly U.S.-centric names. What about some international companies that may benefit from the cloud push?
Erwin: We think Alibaba (BABA) will gain mostly outside the U.S., since they're coming up with their own unique offering.
TheStreet: You also own Cisco, which isn't a company most investors think of when they think of companies tied to cloud computing. Tell us about that.
Erwin: We own Cisco (CSCO) , because we think within their industry, they're continuing to gain against competitors, but it's still slow growing. There's a lot of talk about how their software connects to the hybrid cloud and they're working hard at it.
But, as an investor, we don't think the company is going to grow more than single digits for quite a while. They have such an anchor with switches and routers that are declining that it's really difficult.
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