The kickoff question: why was ExxonMobil the most important name in the S&P 500 at year-end 2010? XOM was 3.1% of the index back then, followed by Apple (2.5%) and Microsoft (2.0%). Today, of course, things look very different. XOM is down to a 0.5% weighting in the S&P while AAPL (6.5%) and MSFT (5.6%) are larger than XOM ever was.
This would seem to be a pretty dramatic mispricing for 2010-vintage XOM, because it was patently obvious a decade ago that Technology was the proverbial “next big thing”. Apple launched the iPhone in 2007. By 2010 the iPhone 4 was already out – the first one with a front facing camera for selfies. Facebook reached 500 million users in 2010. Microsoft launched Azure, its cloud computing solution. Amazon had been selling 3rd party merchandise for 3 years.
The explanation is actually pretty simple: Exxon was making a lot more money than Apple or Microsoft in 2010. Almost as much as both of them combined, in fact.
- XOM net income in 2010: $30.5 billion
- AAPL net income 2010 FY (ending September): $14.0 billion
- MSFT net income 2010: $18.8 billion
Of course the story is different now, as 2020’s estimated earnings for each company shows. Thanks to the decline in oil prices, Exxon will likely post a loss this year. By contrast, Apple’s net income has compounded at 15% since 2010 and Microsoft’s CAGR over the same period of time is 10%.
- XOM: expected loss of $1.1 billion
- AAPL: expected profit of $55.4 billion
- MSFT: expected profit of $49.0 billion (2021FY)
That explains how a company loses 2.5 points of S&P 500 weighting in a decade: go from outsized profits to none at all while other already-large companies in the index are doubling their net income every 5-7 years. You can tell the same story about Chevron (1.5% of the index in 2010, 0.5% now) or in fact the whole Energy sector (12.0% of the S&P 500 in 2010, 2.0% now).
We think this simple example says a lot about the ongoing “growth versus value” debate. Technology is the poster child for the former, and there is no better example of the latter than the beaten-up Energy sector. We have a decade of history which says Technology can continuously evolve its business model to grow profits. And in the same 10-year span we also have a case study of how a once highly profitable industry can stumble, even if the collapse in oil prices due to COVID was out of its control.
The bottom line here is that there are solid fundamental reasons why Growth has had such a good run and these also provide a framework to consider how Value can catch up. It’s not complex: generate impressive profits (i.e. regularly beat Wall Street estimates) and grow them at least somewhat consistently. As a reminder, Industrials are our favorite Value group just now since we believe they can execute on that mandate over the next 2-3 years.