The sector is heavily exposed to new technologies which form altogether new secular growth trends. As time advances, structural changes in advertising and streaming will go beyond what we can imagine today. In particular, metaverse shapes the lines between our physical and digital lives, potentially transforming many of our day-to-day interactivities such as advertising, e-commerce, entertainment and education.
While the sector offers an attractive long-term opportunity, it is experiencing slowing subscriber growth due to demand pull forward, market saturation, and competition. We believe though that the fears and subsequent valuation adjustments are overdone. Based on long-term average ratios such as PE and EV/EBITDA, valuations look attractive now as significant scaling benefits should enable healthy growth in the future. Regulatory issues, such as data protection, are key, and we believe that the industry will be able to face the challenge.
Longer term, we believe the continued expansion of 5G could further increase growth within the Communications sector, as it continues to increase demand for equipment and services. Upgrading networks will require substantial capital investment, but federal government infrastructure initiatives could result in subsidies and investment.
About Metaverse:
Metaverse evokes a virtual world where avatars drive digital cars and use non-fungible tokens (NFTs) to buy items for their day-to-day imaginary lives.
While such virtual commerce could be insignificant, the initial applications of the metaverse are more pragmatic. Metaverse is expected to primarily operate as an advertising and e-commerce platform for offline products and purchases covering our day-to-day needs.
In fact, advertising and e-commerce represent, solely in the US, an estimated $8 trillion opportunity to monetize consumer spending. This includes about everything from games and music to apparel, automobiles and real estate. Part of the proposed metaverse applications are already part of our day-to-day applications; think about walking through your new home with the architect who explains the benefits. This and similar opportunities will not only push the technology further but also unlock faster the availability of 6G.
Positives for the sector:
- Social media has a competitive advantage.
- 5G rollout should boost growth potential, but companies face near-term high capital expenditures; government subsidies and investment may help.
- Social distancing has accelerated demand for streaming content.
Negatives for the sector:
- The antitrust regulatory trend is negative for search engine and social media companies.
- There is potential for increased social media regulation (for example, the Section 230 legal shield is under scrutiny).
- Streaming services risk market saturation.
| Investment opportunities: |
| The sector should continue to benefit from the shift of ad dollars to digital platforms. However, due to the defensive nature of telecom companies (around 20% of the sector) – combined with uncertainty related to antitrust issues – the sector is more likely to perform in line with the market.
Short-term, we believe that many Communication Services companies currently face risks that outweigh their potential rewards, which is why we have a “hold” rating on most of the sector’s companies (GOOG, DI, NFLX, FB, AMZN). |