IBM (IBM): IBM reported an inline quarter with the normal give and take that any large, diversified corporation will experience.  All guidance was reiterated with a slight boost to the growth rate for software revenue.  Software was a little better than expected driven by double-digit growth at Red Hat for hybrid cloud and transaction processing that builds off the latest mainframe cycle (every two to three years).  Consulting growth was slower but performed well after several peers had indicated weakness in the prior few months.  This is important as an indicator that IBM could be gaining market share, key to our thesis that the stock’s P-E multiple can expand.  Growth was held back by the aging of the latest mainframe which is reported in the company’s Infrastructure segment.  Software and Consulting are the growth drivers and represent over 70% of company revenue.  Mainframes are still important in highly regulated industries like finance and health care where IBM remains a key IT supplier.  IBM has a chance to be a player in AI as the company was an early player with Watson and in June launched a series of AI initiatives built on the well-known Watson brand.  Unsurprisingly, analysts asked a lot of questions about AI on the conference call and management was well prepared.  The tone was optimistic with favorable comparisons for revenue build to the company’s success in hybrid cloud since the Red Hat acquisition.  Management also noted a lot of initial interest from customers with over 150 already engaging.  Overall, the quarter is supportive of our thesis that IBM has returned to growth and deserves a higher P-E multiple.  A little fairy dust from a legitimate entry into AI consulting and software could provide significant additional upside.  We still like the shares after this year’s consolidation of last year’s double digit total return in a bear market.  Upside to $150-$160 plus the 5% dividend yield provides mid-teens return potential into yearend with progress on AI adding meaningful incremental potential.

Alphabet (GOOG/GOOGL): Alphabet reported a better-than-expected quarter with most key business lines and financial metrics outperforming expectations.  Growth in Search and YouTube improved for the first time in several quarters.  Cloud growth held steady, a better performance than the continued slight deceleration from Microsoft Azure (Amazon doesn’t report for another week).  The improvement in revenue growth was reflected in operating income as expense growth was below revenue growth, reversing a concerning trend over the past year.  Alphabet has tightened expenses but not as publicly aggressively as Meta Platforms and other big tech companies.  Employees were down and the company noted continued efforts to optimize real estate.  Free cash flow was solid and management allayed concerns about a big near-term acceleration in capital spending to support AI initiatives.  Not surprisingly, AI dominated the call, both in management’s prepared remarks and analyst questions.  Management was upbeat throughout, noting the company has vast experience with AI already, has first party data to train models, and has many large businesses where AI can offer incremental monetization.  A big concern of investors is that Google Search will hit an air pocket as search moves to Generative AI.  Management feels confident that there are many opportunities to monetize through ads in answers to generative queries.  This is more likely to be a 2024 issue, if at all.  In the meantime, digital advertising trends have turned the corner upward and should accelerate in the second half of the year with tight expense control continuing.  This sets up the potential for more upside surprises amid less worry about AI impacts in the next six to nine months.  GOOGL shares till look reasonably priced at under 20 times new, higher 2024 earnings estimates.  Free cash flow remains strong and funds the heavy AI investment cycle and continuing large share buybacks.  We think the stock can work to $150-$160 and much higher if AI proves additive to financial results in the next 12 to 18 months.

Meta Platforms (META): It is hard to believe where META sits today vs a year ago.  The company just reported a beat and raise quarter that now has 2023 consensus estimates at double the level of last fall.  A year ago, META faced a slowing digital ad market, excessive expense growth, severe margin expansion, and a loss of confidence in company management and strategy.  Today, META is operating with strict financial discipline, while executing strategies to compete against TikTok, implement AI, and build new platforms, and better monetize large services like Messenger and WhatsApp.  Wall Street has renewed confidence in management and is even willing to look past another spike in losses from the company’s metaverse investments.  META shares are back to near where they were in 2021 before things began to fall apart.  It is difficult to see the stock triple off the fall 2022 low and still be bullish.  However, back in 2021, the thought was META could earn about $16 per share in 2024.  Today, consensus estimates are moving up to $18, with $20 easy to justify.  At $320, the stock trades at less than 18 times forward earnings.  This is hardly a stretch given accelerating growth in the core business, new growth opportunities, and importantly, a firm commitment to continue operating with strict financial discipline.  Management will use some its renewed credibility to increase investment in 2024 for growth opportunities and the metaverse.  Should the digital ad market soften again that creates risk for the stock.  A year ago, I was ready to throw in the towel.  The transformation at META has been remarkable and I will gladly admit to having been lucky to bite my tongue and keep my fingers off the SELL button.  A path to $400 or 20 times the stretch EPS target of $20 is plausible and provides a further 25% upside to new all-time highs.

VICI Properties (VICI): VICI reported another consistent growth quarter.  The core business is extremely predictable as the company collects rents on casino properties it owns and leases to a variety of casino gaming companies.  VICI never encountered a missed rent payment during the pandemic when many of the casinos it owns were closed. Now, its casino lessees are in strong financial condition with inflation escalators in the contract.  The bottom line is the core business is sound and growing in the low to mid-single digits.  The excitement at VICI surrounds future property acquisitions in gaming and what management calls experiential real estate.  In gaming the company recently closed several acquisitions or regional gaming properties in the U.S. and its first ever international acquisition in Canada.  These delas provide diversification based on geography and bring in new lessees.  Bigger news was expansions of the VICI’s relationship with Canyon Ranch, a leading owner of wellness resorts serving high income individuals.  VICI is financing an expansion of Canyon Ranch’s business into more resorts and urban clubs.  VICI’s investment includes preferred equity, mortgage loans, and secured loans.  We deeply trust VICI’s excellent management team and like the rationale for the Canyon Ranch deal and the diversification strategy more generally.  VICI shares are trading lower after the 2Q23 report but that has to do with a spike higher in interest rates that is pressuring all REITs.  We continue to expect VICI to produce double digit annual returns driven by core growth, new property acquisitions, and a healthy 5% dividend yield.

T-Mobile USA (TMUS): TMUS produced another good quarter, leading the wireless and broadband industries in new subscriber additions.  Continued subscriber growth is driving TMUS financial results which slightly exceeded estimates except for unimportant equipment sales (mobile phones).  The company sports the best growth rate in revenue, EBITDA, and free cash flow among its telco and cable peers and does so with the best balance sheet in the industry.  This combination of growth and financial strength sets up an attractive share buyback over the next few years when the company has committed to repurchasing 1/3rd of its shares outstanding.  As long as moderate growth continues, this should drive the shares materially higher.  TMUS has been a good investment for Northlake clients but the shares have stalled over concerns about competition in the fully penetrated wireless phone and broadband industries.  We think TMUS can continue to gain share and drive growth due its best quality and highest capacity 5G network, the low market shares the company still has in rural and enterprise markets, and the long successful innovative Uncarrier promotional strategy.  The shares also face a technical hurdle related to the Spring acquisition where Softbank is entitled to a large share bonus if TMUS cross $150 for a prolonged period.  The first phase of TMUS share buyback should be complete late this summer setting up the fall for a new buyback announcement that we expect will address the Softbank bonus shares.  We believe the shares can reach $200 in the next few years, where they will trade at a modest, well deserved premium to slower growing, more heavily indebted peers.

IBM, GOOG/GOOGL, META, VICI, and TMUS are widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts.  Steve is sole proprietor of Northlake, a registered investment advisor.  Northlake’s regulatory filings can be found at www.sec.gov.