Is tech overvalued? In 2021

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Coming out of the pandemic, many businesses, especially small restaurants & retail stores, are struggling, but there is one industry that seems to be booming like its 1999. Okay, okay, we can confidently say that today’s technology industry is not like the .com industry in 2000. Tech has evolved since then, and just having a .com website doesn’t cut it anymore; companies need to produce actual products and grow through market share acquisition and innovation. That doesn’t mean the tech sector today is a good investment. The Tech industry has had the biggest bull run over the last year and a half as it has ever seen before. That begs the question, Is tech overvalued?

Tech stocks are S&P’s Top Holdings

S&P 500 Index measures the performance of large-capitalization stocks of the U.S market. The most popular ETF that tracks the S&P 500 index is SPY – SPDR S&P 500 ETF. SPY is the most popular ETF on the planet, with almost $400 billion in assets under management and growing. ETF has added over $70 billion just over 2021, thanks to tech.

S&P500 Total Assets Under Management growth

How did it do it? Besides being the most popular ETF, it also benefited from tracking the index that is incredibly heavy in technology. How heavy? Well, 25% of S&P 500 is tech.

SPY Industry Exposure

SPY Top 10 Holdings

SPY Top 10 Holdings

Out of the Top 25 stocks, only a handful of them are not tech.

Tech is overvalued if a handful of companies are

When we say “Tech,” what do we mean exactly? From investing perspective, we usually mean a handful of top technology companies. They are Apple, Microsoft, Google, Amazon, Facebook, Tesla, Netflix, Adobe, and maybe Salesforce, CISCO, Intel, AMD, and Oracle.

So to answer a question, is tech overvalued, we can break down the word “tech” into those companies and approach each one with an analytical lens. Figure out what the companies look like in 2021, see what top analysts are saying about each one and bring it all together to answer the question at hand.

Is Apple overvalued?

Apple has seen incredible growth over the last three years, only second to NVIDIA.

Tech stocks price growth % chart

What ratios are saying?

It would be impossible to cover all of the key fundamental ratios in one post, so I will focus on a few of them, compare them to the overall sector and then summarize what analysts are saying about the company today to put together a story if it is overvalued or not.

Apple EV/EBITDA

Tech Stocks EV/EBITDA

Apple’s Enterprise Value to Earnings Before Interest Tax Depreciation & Amortization is right in the middle at 22.55 compared to other top tech companies.

When the pandemic began in 2020, EV to EBITDA was around 9, so based on historical it has definitely gone up, but it is also down from its peak of 29 in December of 2020.

Apple Price to Free Cash Flow

Tech stocks price to Free Cashflow

At 27 today, we are paying 27x the free cash flow that Apple generates. This is cheaper than some of the other high-profile tech stocks but up from when the stock price fell in 2020.

Apple PE and Earnings Growth

Tech stocks PE ratios

Apple’s Price to Earnings ratio is also the lowest at the moment compared to other tech stocks.

Return on Invested Capital

Tech stocks ROIC

Apple’s management is also the most efficient out of comparable tech companies, generating the highest return on invested capital.

What analysts are saying?

Apple Analyst Ratings

Apple has 43 Wall Street analysts covering the stock, and 60% of them are Very Bullish about the stock, 16% are Bullish with the rest either Neutral or Bearish.

What are they saying? High-level summary

Positive

  • Blow out Q3 earnings.
  • Apple continues to buy back shares.
  • Incredible 2021 results in general.

Negative

  • Historically high P/E.
  • Expectations of lower growth in the coming years.

Overall, at the time of writing the analyst market doesn’t see Apple as extremely overvalued.

Let’s move on to other tech names.

Is Microsoft overvalued?

Price-wise, Microsoft has delivered as good of growth as Apple over the last year.

Tech stocks price growth % chart

What ratios are saying?

Microsoft EV/EBITDA

Tech Stocks EV/EBITDA

Microsoft’s EV/EBITDA is higher than Apple’s at 25.80 and is also the highest over the last three years.

Microsoft Price to Free Cash Flow

Tech stocks price to Free Cashflow

At 40 today, we are paying 40x for the free cash flow that Microsoft generates. That is also the highest it has ever been.

Microsoft PE and Earnings Growth

Tech stocks PE ratios

Microsoft’s P/E ratio of over 37 is the highest it has been in the last 3 years.

Microsoft Return on Invested Capital

Tech stocks ROIC

Microsoft’s management has also produced the highest return on invested capital in 2021.

What analysts are saying?

Microsoft Analyst Ratings

Microsoft has 36 Wall Street analysts covering the stock and 69% of them are Very Bullish with 25% being Bullish and nobody who is bearish.

What are they saying? High-level summary

Positive

  • Office 365 is a massive cash generator for the business that can be reinvested into other endeavours.
  • Strong position in cloud computing.
  • Company has emerged from the pandemic stronger with a better cash position.
  • Earnings have become steadier and easier to predict compared to previous years.

Negative

  • Stock is trading at historically high multiples across the board. Almost every multiple is at record-high levels.

Is Google (Alphabet) overvalued?

Along with Apple and Microsoft, Google is up there in terms of price appreciation over the year.

Tech stocks price growth % chart

What ratios are saying?

Google EV/EBITDA

Tech Stocks EV/EBITDA

Google’s EV/EBITDA is lower than Apple’s at 20 also unlike others it is not at record highs.

Google Price to Free Cash Flow

Tech stocks price to Free Cashflow

At 33 today, we are paying 33x for the free cash flow that Google generates.

Google PE and Earnings Growth

Tech stocks PE ratios

Microsoft’s P/E ratio of over 31 is also not the highest on record and is only slightly higher than Apples.

Google Return on Invested Capital

Tech stocks ROIC

Interestingly from the ROIC perspective, Google has returned the lowest percent compared to the competition, but it significantly increased throughout the year, just like others.

What analysts are saying?

Google Analyst Ratings

Google has 44 Wall Street analysts covering the stock and 70% of them are Very Bullish with 27% being Bullish and nobody who is bearish.

What are they saying? High-level summary

Positive

  • Stock is not seen as overvalued compared to others
  • Strong growth in its search business and Youtube as well as cloud.
  • Revenue from Google Cloud offerings are up over 50% year over year.
  • With the economies reopening advertising spend is expected to increase and Google remains a dominant player in the advertising space.

Negative

  • Being part of the broader tech industry that many consider has reached “peak” levels, the stock could be pulled down together with the sector if things were to go south.

So, is tech overvalued based on top three biggest tech holdings? Doesn’t look like analysts would agree with that statement. But let’s take a look at two more popular technology companies.

Is Amazon overvalued?

Amazon’s stock price has increased tremendously over the last three years but not at the same pace as some of the other tech stocks.

Tech stocks price % change

What ratios are saying?

Amazon EV/EBITDA

Tech stocks EV/EBITDA

Amazon’s EV/EBITDA is close to competitors but is significantly lower than its historical value suggesting that the company performance is catching up to its historically high price.

Price to Free Cash Flow

Tech companies price to free cashflow

Massive drop in free cashflow that results in a massive spike in price to free cash flow ratio.

PE and Earnings Growth

Tech stocks PE ratio

Amazon’s PE ratio is highest from the group at over 60 but is considerably low compared to historical. Again, it looks like company performance is catching up with historically absurd price. This is also the reason Amazon’s stock price has not appreciated as much as others during the pandemic when it was supposed to be an outperformed given the increased demand for online goods.

Amazon Return on Invested Capital

Tech stocks ROIC

Compared to other big tech companies, Amazon’s management is the least efficient, generating the lowest return on invested capital.

What analysts are saying?

Amazon Analyst ratings

Amazon has 46 Wall Street analysts covering the stock and 76% of them are Very Bullish with 24% being Bullish and nobody is even Neutral on the stock.

What are they saying? High-level summary

Positive

  • Amazon Web Services continues to deliver strong growth
  • Low multiples compared to historical

Negative

  • Being part of the broader tech industry that many consider has reached “peak” levels, the stock could be pulled down together with the sector if things were to go south.

Is Facebook overvalued?

Facebook is up there with all the others when it comes to price appreciation over the last three years.

Tech stocks price % change

What ratios are saying?

Facebooks EV/EBITDA

Tech stocks EV/EBITDA

Facebook’s EV/EBITDA is the highest it has been in the last three years.

Facebook Price to Free Cash Flow

Tech companies price to free cashflow

Facebook is also trading fairly high vs. Its free cashflow compared to some of the other tech stocks.

Facebook PE and Earnings Growth

Tech stocks PE ratio

Facebook’s PE ratio has come down since early 2019 but is still considered high compared peers and sock market as a whole.

Facebook Return on Invested Capital

Tech stocks ROIC

Similar to other big tech names, Facebooks management is good at utilizing capital, generating a historically high 31% return on invested capital.

What analysts are saying?

Facebook Analyst Ratings

Facebook has 48 Wall Street analysts covering the stock and 65% of them are Very Bullish with 15% being Bullish and 1 Bearish and 1 Very Bearish.

What are they saying? High-level summary

Positive

  • Massive cash position that could be deployed to invest in growth
  • Stock split can be beneficial
  • Controls 4/5 most popular social media networks
  • Despite recent regulatory concerns, users remained with the platform thanks to strong network effects that make it hard for users to leave.

Negative

  • User growth is slowing down
  • Regulatory risk and privacy concerns remain an issue

Market sees more potential in tech

From going over analyst reports, it seems that at the moment, the whole industry is not worried at all that the technology sector today is in the bubble. Many argue that although valuations are high, they are not absurd. Also, compared to tech stocks in the 2000s, top companies today produce incredible products that are used by the whole world.

What about growth potential?

It is very difficult for Mega cap stocks like these to continuously deliver growth, but it is not a question of massive growth but a question of stable growth. As companies like Amazon stabilize, they no longer offer massive quarterly spikes but offer consistent results.

Deployment of massive cash reserves

What makes today’s tech companies different is their massive cash piles that they can deploy to grow and innovate. The number fluctuates but at one point, combined tech companies held half a trillion in cash reserves.

In 2021 today, Top 5 Tech companies hold around $479 Billion in Cash and Short Term Investments.

Top tech stocks total cash reserves

So, is tech overvalued? Looking at these facts alone, it is hard to say that it is. The industry and the market very strongly believe that there is future potential in many of today’s big tech names. Technology companies today are well-diversified with multiple revenue streams that have proven themselves even during the pandemic. Whether that is truly the case, only time will tell.

Happy Investing!

Sources: YCharts.com

Top EV ETFs Breakdown

I started my professional career in the automotive industry long before electric vehicles were a thing despite Tesla already existing.

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