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Successful adoption of digital strategy set to polarise returns
Thursday 04 Jun 2020 Author: Steven Frazer

Not everyone is a tech fan but if there is one silver lining to be drawn from the Covid-19 pandemic it may be a new appreciation of what technology can do for us.

Where would we be without Zoom or Microsoft Teams to keep us in the work loop and let us safely stay in touch with family and friends during lockdown. Perhaps you’ve shopped online or signed up to streaming TV for the first time, or bought your first share on an investment platform instead of using the phone.

Recent data shows that ‘we have vaulted five years forward in consumer and business digital adoption in a matter of around eight weeks,’ said a recent report by business consultancy McKinsey.

Since the start of 2020 Zoom Video shares have rattled more than 150% higher, Netflix is up nearly 30% and even the previously lacklustre stock of workplace collaboration platform Slack has sprung to life this year, up 53%.

Given the dominance of the world’s technology scene by big US providers, and the relative absence of very large UK specialists (just AVEVA (AVV) and Sage (SGE) in the FTSE 100, for example) it can be easy to overlook what remains a vibrant UK tech space at the mid cap FTSE 250 level and below.


‘This step change in remote adoption is now arguably substantial enough to reconsider current business models,’ McKinsey describes the switch to more flexible working in future, perhaps making it a golden age for IT infrastructure suppliers.

UK companies like Computacenter (CCC) and Softcat (SCT) have decades of expertise and experience and should be excellent partners as businesses extend their IT capabilities to allow flexible home working, using cloud-based systems.

It is glaringly obvious that some industries and subsectors are tightly gripped by the fist of regulation, and that looks only likely to tighten further in a post Covid-19 environment. Pharmaceutical and healthcare, energy, transport, security, financial markets and much more may require the sort of governance, risk and compliance software supplied by Ideagen (IDEA:AIM), for example.

While elsewhere companies such EMIS (EMIS:AIM) and Kainos (KNOS) tap directly into public sector budgets for digital investment, in areas like central and local government services and the NHS.

Some of these changes will prove temporary, but many more will stick because of the emerging benefits. For example, more than half of people (56%) forced to work from home during lockdown say the change has improved their quality of life, according to a recent Uswitch report. Two fifths (39%) said they are exercising more and a third (34%) eating more healthily.

According to McKinsey, 75% of people using digital channels for the first time indicate that they will continue to use them when things return to ‘normal’.


Yet the US remains home to many of the world’s biggest and best technology opportunities, and it is no coincidence that the nearly half of the S&P 500’s best performing stocks in 2020 are tech of one stripe of another, with another half dozen some sort of healthcare or biotech.

These include Amazon and Netflix, part of the FAANG stocks alongside Google parent Alphabet, Apple and Facebook. Throw in Microsoft, these six tech stocks are all up on the year, versus a 6.2% decline for the S&P 500, and are now worth almost $5.75tn, or 21.7% of the S&P’s $26.5tn market cap.

These are essentially digital, flexible, platform businesses that can control costs, maintain service standards and still fulfil customer needs even during these difficult times.

This is demonstrated by first quarter 2020 earnings, even in the face of the unprecedented challenge of Covid-19, these companies walked away relative winners.

Yes, there is devil in the detail, and expectations have been toned down here and there, but the tech sector continues to largely deliver growth whereas other parts of the stock market are warning investors to expect anything from seriously capped progress growth to masses of red ink.

This dominance of tech returns did not emerge with the virus, it has been building for years. ‘All the operating profit growth from the S&P 500 over the last eight years is tech,’ says William de Gale, the former BlackRock manager who is now running the BlueBox Global Technology fund.

‘There’s been zero progress from anywhere else.’


Many traditional industries seem likely to accelerate the embracing of digital capabilities.

For example, banks have transitioned to remote sales and service teams and launched digital outreach to customers to make flexible payment arrangements for loans and mortgages.

Grocery stores have shifted to online ordering and delivery as their primary business. Manufacturers are actively developing plans for ‘lights out’ automated factories and supply chains.

Schools in many places pivoted fully to online learning and digital classrooms, while doctors have begun delivering telemedicine, aided by more flexible regulation.

‘I have joked, along with others in the tech sector, that all businesses will ultimately become tech businesses,’ said Ian Spence, founder of the Megabuyte IT consultancy and a technology industry analyst for more than 20 years.

While that may not come to pass in a literal sense, what he believes will happen over the next decade is that technology will become as intrinsic to delivering products and services as electricity.

‘This will accelerate digital disruption across the service economy,’ Spence says, and ‘benefit the technology industry, but only for those tech companies well-placed to take advantage, and not all will be’.


This is mean fundamental changes in how many businesses operate, driven to a large extent by shifting value chains, with disintermediation rife. Spence urges investors to think of the impact that comparisson sites have had on the insurance sector, for example, and you get a glimpse of what is coming, in his view.

The implication for investors is that this digital revolution will polarise investment returns between the digital winners and the digital losers, with a knock-on effect to stock valuations. We had already seen a convergence in the valuations of tech-enabled services companies with pure tech companies, and this can only accelerate.

‘A bit like buying a doer-upper house, investors will make their best returns by investing in businesses with the potential to digitally transform and then transforming,’ believes Spence.

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