BigTech Capex
More on Big Tech capex
Several readers wrote in response to yesterday’s piece about capital spending and depreciation expense at the big US tech companies. The gist of their comments was that the market sees through accounting, and looks at cash flow. That GAAP profits of the Big Techs are not representative of how much they are spending doesn’t really matter.
This is right, but only to an extent. Here is free cash flow (operating cash flow less capital expenditures) at the five companies we looked at yesterday:
These companies (except for Tesla) still generate a boatload of free cash, even after shovelling billions at AI data centres. But notice that the trend in cash generation is flat to down. This is easier to see when you look at them in aggregate:
Now, one might look at this and say, “cash flow is cyclical, and the industry has been through down cycles before, like in 2021-2022, no big deal”. And there is some truth to that. But it is worth remembering that during that part of the cash cycle, all these stocks underperformed the market (and except for Microsoft, the underperformance was significant).
Of course, the important thing is what happens next — how long the wild AI spending continues. It’s hard to say. Meta, Amazon and Alphabet have all suggested that capex will be higher in 2025 than in 2024. We’ll find out more from fourth-quarter earnings reports.
In terms of earnings per share — as opposed to cash flow — the future is doubly hard to see, because we don’t know how exactly these companies depreciate data centre assets.
Ravi Gomatam of Zion Research Group, which specialises in accounting issues, emphasised to me that modelling future depreciation at big tech companies was highly complex. The companies provide only high-level information about their investments, and those high-level numbers can obscure a lot. Take data centre spending: what part is servers? The non-server infrastructure? The building? If treated individually, each of these would be depreciated at different rates; or they could be depreciated together. On top of that, there is the question of how depreciation rates might be changed, or writedowns taken, when computer equipment is made obsolete by innovation. A lot of assumptions and back testing is required to come up with a reliable projection.
What we can say for sure is that investment, depreciation and cash, and not just AI hype, will matter for tech investors this year.