1 Number Every Investor Needs to Look For When Nvidia, Alphabet, and Amazon Report Earnings, Whether You Own the Stocks or Not
Analysts project strong S&P 500 earnings growth, driven by tech giants Nvidia, Alphabet, and Amazon. However, a significant portion of their reported profits comes from 'other income,' primarily unrealized capital gains on investments like SpaceX, Anthropic, and Intel. This non-operating income inflates GAAP earnings, masking lower underlying operating growth. Investors should scrutinize this volatile component, as it distorts the true health of corporate earnings and index performance.
Analysts are projecting phenomenal earnings growth for the S&P 500 (^GSPC -0.14%) in both the near and long term. The second-quarter consensus earnings growth estimate is 23.6%. They expect 25.1% earnings growth for the full year. And over the next five years, analysts expect average earnings growth of 24.9%.
Those forecasts are being driven by booming earnings for some of the biggest companies in the index, including Nvidia (NVDA +2.39%), Alphabet (GOOG -1.20%) (GOOGL -1.44%), and Amazon (AMZN -1.09%). All three companies are seeing very strong revenue and earnings growth as demand for AI compute has continued to outpace their ability to increase supply, producing earnings results that have often exceeded analysts' high expectations.
Those results have helped many investors justify the S&P 500's high valuation. In fact, the S&P 500 forward P/E ratio has declined despite stocks rising this year, as analysts raise their earnings outlook for the index. But there's a key number to watch in these big companies' quarterly reports that might make their earnings look better than they actually are.
Image source: Getty Images.
An unsustainable source of income
During the first quarter, Alphabet generated almost $37 billion from its operating activities. Its Search business continued to see accelerating revenue growth, driven by increased engagement and improved ad efficacy enabled by AI innovations. The cloud computing business absolutely skyrocketed, growing 63% year over year and expanding its operating margin. But Alphabet generated even more income, nearly $38 billion, as "other income."
Alphabet is not unique in that regard. Amazon generated $16 billion in other income compared to about $24 billion in operating income last quarter. Nvidia generated $16 billion in other income and $54 billion in operating income.
NASDAQ: GOOG
Key Data Points
"Other income," for the most part, refers to unrealized capital gains on investments. A 2018 rule change now requires companies to report the net change in the fair value of investments on the income statement. (Such value changes were previously found buried in the balance sheet.)
Including unrealized investment gains in the income statement can significantly affect earnings growth. The $69 billion in combined "other income" from Nvidia, Alphabet, and Amazon last quarter accounted for about 10% of the entire S&P 500's earnings. Without those reported gains, the S&P 500's earnings growth would've dropped from almost 29% to about 15%.
The second-quarter impact could be huge
Alphabet's massive other income stems from its stakes in Space Exploration Technologies (SPCX -6.70%) and Anthropic. Amazon also owns a substantial stake in Anthropic. Nvidia owns stakes in Anthropic and OpenAI, as well as a substantial stake in Intel (INTC -2.47%).
SpaceX went public last quarter and reached a valuation of about $2.25 trillion at the end of the quarter. That's well above the $1.25 trillion valuation the company had when it merged with xAI in February.
NASDAQ: SPCX
Key Data Points
Anthropic raised capital at the start of the year at a $350 billion valuation. Amazon and Alphabet added to their positions at a $380 billion valuation in April. In May, the AI lab's valuation exploded to $965 billion.
Nvidia's stake in Intel was worth about $9.5 billion at the end of the first quarter. If the company held on to all of its shares through the second quarter, its stake would be worth about $30 billion at the end of the period after the stock's phenomenal run.
NASDAQ: INTC
Key Data Points
In both Intel's and SpaceX's cases, the stocks have already sunk below their second-quarter closing prices. It shows that unrealized investment gains (and losses) can swing in either direction.
Why this number is important for all investors
The reason investors need to pay attention to "other income" on big tech (and every other company's) income statements is that it's having an outsize impact on overall earnings growth for the entire index. As mentioned, analysts have high expectations for earnings growth, but the underlying operating earnings growth that companies are actually exhibiting is much lower than the GAAP earnings they report.
While analysts typically ignore unpredictable and volatile "other income" in their estimates, the abnormally large amount this year certainly muddies the waters. Analysts will usually submit estimates for GAAP or non-GAAP earnings based on what the company reports. Amazon and Alphabet typically report GAAP earnings while Nvidia reports non-GAAP earnings. As a result, Amazon and Alphabet will report big earnings beats when their investments do well, which could influence how the market interprets their overall results.
Not only are analysts expectations already sky high, investors are pricing stocks with the expectations that they can beat those estimates as equity valuations continue to climb higher. That works until it doesn't.
As mentioned, SpaceX and Intel have already seen their stock prices sink lower since the end of the second quarter. A downturn in the overall market could be devastating for earnings, not because operations will take a big hit, but because negative other income could completely erase solid operating results for some companies. The result could be a vicious cycle, just as it's been a virtuous cycle so far this year, pushing overall valuations lower for the entire market.
