The financial media has used the term “recession” more than it should be allowed to. That said, the pain of the Great Recession makes for more than just water-cooler talk among investors and those who lost massive savings a decade ago. With the risks of a recession being more in a focus than in recent years, the team at Bank of America Merrill Lynch has identified which of the top internet stocks would do the worst and which likely would hold up the best during the next recession.
While Merrill is not calling for an outright recession in the immediate quarters ahead, the firm did show that its economics team has increased its probability of a recession. Some of the drivers here are not having more easy growth measures, monetary policy tools look limited, external shocks via trade war and Hong Kong, and more recently a (very brief) yield curve inversion. The team now sees the odds as about one-in-three of a recession hitting in the next 12 months.
With many of the top names losing 50% or more in the Great Recession, the Merrill team evaluated its key names within the internet sector to see how they likely would hold up in a downturn, using its 2020 consensus estimates on revenues, margins and so on.
24/7 Wall St. has evaluated the more extreme 15% multiple-hit case first, which would feel more like the Great Recession, and we have evaluated the 5% multiple-hit case that might be more in-line with a so-called garden variety recession.
Alphabet Inc. (NASDAQ: GOOGL) and Facebook Inc. (NASDAQ: FB) are evaluated as scoring well based on their outright size, quality, cash and other key metrics. On top of large piles of cash, both Alphabet and Facebook score high with low debt, higher EBITDA margins and expected higher return on capital. Both companies could easily pull back on their capital spending plans if a slowdown arrived. Booking Holdings Inc. (NASDAQ: BKNG), Twitter Inc. (NYSE: TWTR) and Expedia Inc. (NASDAQ: EXPE) are all said to hold up well also, but the recession risk is only one factor in the total evaluation.
Those companies perceived to have the most risk in a recession are as follows: Cardlytics Inc. (NASDAQ: CDLX), Carvana Co. (NYSE: CVNA), Uber Technologies Inc. (NYSE: UBER), Revolve Group Inc. (NYSE: RVLV) and Quotient Technology Inc. (NYSE: QUOT). While the internet sector was not immune to the impacts of the recession and while there were hard hits on the growth rates back in 2008, Merrill cited that the internet stock group saw a rapid recovery. That was particularly true among the travel and e-commerce segments. The recovery in e-commerce was nearly as strong, with strong recoveries seen in Amazon.com Inc. (NASDAQ: AMZN) and in the now split eBay Inc. (NASDAQ: EBAY) and PayPal Inc. (NASDAQ: PYPL).
The internet media sector, including Netflix Inc. (NASDAQ: NFLX), had a slower decline in metrics in 2008 but it also posted a more modest recovery than travel and e-commerce showed in 2009. The internet report noted:
Applying a 15% discount to our 2020 estimates and trough multiples from 2008 suggests Netflix has the most potential downside (to $39), while Alphabet (to $694) has the least. We apply a 15% haircut to estimates in this more-severe downside scenario in order to quantify the potential downside to estimates and valuation.
Where things get tricky is applying that 15% downside on sales and stretching it to earnings per share and EBITDA. The Merrill team sees a 41% potential downside on Alphabet but 87% downside potential on Netflix. This also would be at the same time that Netflix is expected to be recovering from the loss of key partners, like the entirety of the Disney/Marvel content, and while it has plans to ramp up spending on its own content.