Shares in big tech businesses tend to fall when grandees in Washington propose clipping the wings of these all-powerful companies – but is the market getting it completely wrong? Breaking-up conglomerates often creates significant value for shareholders as each individual business unit is valued appropriately by the market.
The valuation of Elon Musk’s electric-vehicle group Tesla and taxi group Uber suggest that a spin-off of Waymo, Alphabet’s autonomous driving technology business, could create significant value for shareholders.
For investors, a break-up of Amazon may make even more sense. The company is regarded as an online retailer, but the main engine of its growth is its cloud computing business Amazon Web Services (AWS).
AWS ended the pandemic-riven year of 2020 with more than $13.5bn in annual operating profits, generating more than 63% of the entire group’s operating profits for the year. Revenues in 2020 soared 30% year-on-year. The market is likely to value this high-growth, high-profit business at a heady multiple.
Spinning off AWS will not only unlock value for current investors, but it will almost certainly increase the size of its addressable market.
Increases addressable market
Tim Bray, a former vice president at Amazon has argued that an independent AWS will be more attractive to many companies that were previously reticent about doing business with the cloud operator owned by one of their direct competitors. If you are a struggling high-street chain developing your online business, why would you help make the Amazon conglomerate more successful and powerful when the retail side is responsible for destroying your own business?
There are many other units of Alphabet that are likely to achieve better market values independently. Alphabet owns Nest Labs, a smart-home products group that looks to benefit significantly from growth in the Internet of Things (IoT).
Then there’s X Development, a US semi-secret research and development facility looking into exploiting space, another area where investors are desperate to have a pure-play exposure.
However, there are some solid arguments for not splitting up these businesses too. Management at conglomerates tend to argue that having a portfolio of businesses allows the profit generated in one business unit to help fund research and development in other businesses that have a higher cash burn.
Bill Gates, who himself battled anti-trust regulators at Microsoft, thinks breaking up these businesses is too blunt an instrument. Mr Gates recommended regulators target specific violations technology companies make instead. He basically argued that if one business is operating with troubling practices, breaking it up would merely result in two companies operating badly and the problem will not be solved. He insists that regulation in this area is the only sensible way to solve the issues people currently have with Big Tech.
Many also argue that such businesses are natural monopolies because of their “networking effect”. Facebook became so dominant in social media because people joined a service that all their friends and family were using. Facebook’s dominant position is not a result of monopolistic practices, but a result of people’s choices. They argue it would be foolish for antitrust regulator to insist on a break-up of a business for monopolistic reasons when it wouldn’t result in a more competitive marketplace anyway.
However, the technology sector changes so rapidly that it will be difficult for the authorities to keep up. The global nature of these companies also means they operate in different regulatory environments, so it implies international standards need to be introduced.
There are well-argued points on both sides of the break-up argument but, ultimately, this decision will be politically driven. The concerns moved up the agendas this week after President Biden nominated Lina Khan for the Federal Trade Commission and has already hired Tim Wu as a White House economic advisor. Both are professors at Columbia University and have been high-profile and vocal critics of the large-cap technology companies.
Ms Khan previously served as a White House aide during a 16-month House Judiciary antitrust probe that concluded tougher scrutiny of companies such as Amazon, Apple, Google and Facebook was essential.
However, these are early appointments in the agencies that will be assessing the dominance of Big Tech and the leaking of these names ahead of any official announcement appears to be the Biden administration playing to its progressive base. In the end, this break-up decision will be politically motivated and generally split along party lines. However, there is one piece of politics that unites both Democrats and Republicans that may result in the break-up hawks eventually backing off.
The trade war between Beijing and Washington is essentially a dispute over technology. Chinese companies have managed to leapfrog the US in the production of some key technologies, including 5G infrastructure hardware and semiconductors.
After transferring intellectual property from the west, Beijing then used its ability to dictate the direction of research at its state-owned companies. This has now given it an advantage that Washington want to reverse to maintain its position as the global hegemon. Breaking up American tech companies is likely to hand an advantage to Beijing. Although a break-up of Big Tech would probably provide a windfall for investors, it may damage America’s ability to compete with China in this all-important technology war. In the end, geopolitics will probably save Silicon Valley’s skin.
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