Stocks to Join the Trillion-dollar Club

Leading EV and battery storage player Tesla became the most recent entrant to the exclusive trillion-dollar club. The firm’s stock and market cap blew past the US$1 trillion mark when the news of car-rental company Hertz planning to buy 100,000 Tesla cars became public.

It may have taken Apple, Amazon, Microsoft, Alphabet and Tesla decades to reach a trillion-dollar valuation, but given their explosive growth, differentiated products and services, unrivalled competitive advantages and well-developed ecosystems, they may just be getting started.  

The first company ever to hit a US$1 trillion market cap, Apple (AAPL) designs a wide variety of consumer electronic devices, including phones, tablets, smartwatches, streaming devices, and headphones. Its flagship iPhone makes up the majority of Apple’s total revenue. The tech heavyweight also offers a range of services including Apple Music, iCloud, Apple Care, Apple TV+, Apple Arcade, Apple Card, Apple Pay, and others.

From a geographic standpoint, 40% of revenues come from the Americas while the rest is earned internationally. “Apple’s competitive advantage stems from its ability to package hardware, software, services, and third-party applications into sleek, intuitive, and appealing devices,” says a Morningstar equity report, stressing that “this expertise enables the firm to capture a premium on its hardware, unlike most of its peers.”

While Apple’s services revenue has been growing consistently, the iPhone remains its largest source of revenue owing to its cult-like loyal user base. “We view the iPhone as a revolutionary product that created the smartphone ecosystem and transitioned computing habits away from the PC,” says Morningstar sector strategist, Abhinav Davuluri, who puts the stock’s fair value at US$124.

The robust app store, which fuelled iPhone adoption and grew Apple’s user base, boasts applications ranging from productivity, social media, gaming, music, and others.

However, hardware is becoming increasingly commoditized, and Apple may need to sharpen its focus on “newer software and services to augment the user experience and retain customers,” says Davuluri.

The latest to join the US$1trillion club, EV maker Tesla Inc (TSLA) is a vertically integrated sustainable energy company that sells electric vehicles, solar panels and solar roofs for energy generation, and battery storage for residential and commercial properties, including utilities.

Tesla’s impressive fleet includes luxury and midsize sedans and crossover SUVs, and a pipeline including more affordable sedans, small SUVs, a light truck, a semi-truck, and a sports car.

Tesla sold nearly 500,000 cars worldwide in 2020. This year, despite chip shortages, Tesla has successfully ramped up its production as demand continues to skyrocket. “On Oct. 25, rental car company Hertz announced plans to purchase 100,000 Tesla Model 3 vehicles by the end of 2022,” says a Morningstar equity report, noting the move sets up Tesla for further fleet deals, and increased sales volume.

More EVs in rental fleets could further drive long-term EV adoption. Morningstar forecasts EVs will reach cost and functional parity with internal combustion engines by 2025. These trends, combined with a global push for green mobility, create a long growth runway for Tesla and its products.

“While rental car companies typically get a discount for purchasing vehicles, Tesla offered no discount to Hertz, given the company's growing vehicle backlog,” says Morningstar equity analyst Seth Goldstein, who recently lifted the stock’s fair value from US$650 to US$680.

Tech behemoth and Google’s parent company Alphabet (GOOG) briefly touched the US$2 trillion valuation mark on Nov 05, before retreating. Google generates 99% of Alphabet revenue, the bulk of which is from online ads. Sales of apps and content on Google Play and YouTube, as well as cloud service fees also contribute to its revenue. Other revenue contributors include Chromebooks, the Pixel smartphone, and smart homes products (Nest and Google Home).

“Alphabet dominates the online search market with Google’s global share above 80%, via which it generates strong revenue growth and cash flow,” says a Morningstar equity report, projecting continuing growth in the firm’s cash flow and market dominance.

The firm’s streaming service YouTube has also been growing its contribution to top and bottom lines, the report adds.

Alphabet’s wide moat, or sustainable competitive advantage, flows from intangible assets and the network effect. “Google’s ecosystem strengthens as its products are adopted by more users, making its online advertising services more attractive to advertisers and publishers and resulting in increased online ad revenue,” says Morningstar equity analyst, Ali Mogharabi, who forecasts ad revenue to grow at double-digit rates over the next five years.

The tech major has successfully exploited wider adoption and usage of mobile devices. As the online advertising market followed its audience onto the mobile platform, Google capitalized on this through “its Android mobile operating system’s growing market share, helping it drive revenue growth and maintain its leadership in the space,” Mogharabi notes.

With a market cap of US$2.52 trillion, as of Nov 05, Microsoft (MSFT) recently leapfrogged Apple as the world’s most valued company. Best known for its Windows operating system and Office productivity suite, Microsoft has three equally sized segments: productivity and business processes (legacy Microsoft Office, cloud-based Office 365, Skype, LinkedIn), intelligence cloud (Azure, Windows Server OS), and more personal computing (Windows Client, Xbox, Bing search, Surface laptops, tablets, and desktops).

“Wide-moat Microsoft continues to benefit from digital transformation efforts at enterprise customers, which helped the company drive material upside” beating its revenue and EPS outlook for the quarter, says a Morningstar equity report.

Under chief executive Satya Nadella, the company has transformed into a cloud leader. Azure, the company’s cloud platform, is the centrepiece of the revamped Microsoft, and is already a US$30 billion business, growing at a staggering 50% rate in fiscal 2021. “Azure has several distinct advantages, including that it offers customers a painless way to experiment and move select workloads to the cloud creating seamless hybrid cloud environments,” contends Morningstar equity analyst Dan Romanoff, adding that Azure also benefits from secular trends in AI, business intelligence and Internet of Things, themes around which its services are built.

Microsoft remains impressive in its ability to drive both growth and margins at scale, says Romanoff, who recently raised the stock’s fair value from US$325 to US$345, prompted by strong quarterly performance.