Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 266

Apple at US$1 trillion: tech titans give runaway returns to scale

There is a well understood principle in investment known as the law of large numbers. Essentially, it says that the larger a company is, the harder it is to increase revenue growth rate, since most people already have the product or service. It’s why revenue growth for big banks and retailers like Coles is almost always below 10%. Of course, this is after having got large in the first place, which is another story (about economies of scale, about which we all know).

But back to the main point. In the past few years, something very unusual has been happening to some of the biggest companies in the world, like Google (Alphabet), Amazon, Microsoft, Tencent and Alibaba. The revenue growth for these companies isn’t tapering off, it is actually accelerating. Meaning that growth this year is higher than growth last year.

It’s known as ‘runaway returns to scale’. The formal definition of this is based around the concept that when output increases by more than the proportional change in inputs, there are increasing returns to scale.

Is this happening, and if so, how?

One thing that has definitely emerged in the past 20 years is the network effect. This states that arithmetical growth in users leads to geometric growth in value of the network, since each incremental user increases the number of transactions by more than just the one incremental user.

It’s true that one telephone and one person cannot transact with anyone. Even two people can only do one transaction (assuming for a moment, one transaction per connection). But ten people can do 45 transactions.

There is a formula for this: n(n - 1) ÷ 2. In this case, if n is the number of users, then:

10 x (10-1) ÷ 2 = 45 connections

This is the network effect in simple terms.

So it is that growth rates for some of the largest companies in the world, as measured by revenue, are increasing, in part because of the network effect, as shown below:

The chart above shows revenue growth in aggregate for six of the world’s largest companies: Amazon, Google, Facebook, Tencent, Microsoft, Alibaba. It shows revenue growth accelerating in the past few years, not slowing down as could be expected from the law of large numbers. So perhaps these are examples of runaway returns to scale? (There is some further explanation needed for Microsoft and Apple, which will we get to.)

The connection between these companies is their use of software to connect users arithmetically, in the process increasing transactions, and the value of their networks, geometrically. Alibaba and Tencent connect more people in China than any other network, so have the largest dollar value of transactions. Same with Amazon in the US. For clarity, we have broken out the revenue growth of the individual companies in question.

Microsoft works slightly differently, but is still showing big returns to scale. The company’s major products, enterprise software and Windows, are the largest corporate operating system in the world. The company is shifting from the provision of these products within individual companies to providing them as a service in its datacentres, effectively moving every on-premise data centre to Microsoft’s own datacentres, and providing the product (IT) as a service. We are not certain whether this is part of a network effect or simply a one-time business migration. The acquisition of LinkedIn a few years ago suggests that Microsoft is trying to turn itself into a network company. But in any case, it is showing runaway returns to scale as it moves whole industries to the datacentre.

As a separate case, we should consider Apple. It hasn’t primarily been a network company. It sells phones, which are hardware, and are interoperable with all other brands of phones, and most all other networks, so while it is a beneficiary of the network effect, it is not driven by it. Its product set is expanding, in turn attempting to lock users to its ecosystem to ensure seamless operability, which is driving sales, though previous quarters’ growth don’t point to runaway returns. And its expansion into networked services like the app store, music, entertainment etc. can be classed as a network, (though it has been the company’s choice to pursue this more slowly because of privacy issues) but it is much smaller though faster-growing than the hardware business.

Just how big are the big six? They are now bigger in revenue than the ASX top 50, once the currency conversion is considered. And growing faster.

Does size bring problems?

What happens when companies become so large that they create problems for lesser competitors? Eventually, they get broken up, like AT&T or Standard Oil, into a group of smaller businesses. And of course, as Thomas Piketty noted in his excellent book Capital in the Twenty-First Century, every so often a major global calamity comes along, like say a World War or even two), at which point everything is blown up, quite literally, and everyone starts again from a more or less zero base.

The first is preferable to the second. And it should be noted, in the case of the Standard Oil break-up, the sum of the parts wound up being much greater than the whole.

 

Alex Pollak is Chief Executive, CIO and Founder of, and Anshu Sharma is Portfolio Manager at, Loftus Peak. This article is general information and does not consider the circumstances of any individual.

RELATED ARTICLES

Why the tech giants still impress

Why the four tech giants are not expensive

Have Apple and Google reached the beginning of the end?

banner

Most viewed in recent weeks

The case for the $3 million super tax

The Government's proposed tax has copped a lot of flack though I think it's a reasonable approach to improve the long-term sustainability of superannuation and the retirement income system. Here’s why.

7 examples of how the new super tax will be calculated

You've no doubt heard about Division 296. These case studies show what people at various levels above the $3 million threshold might need to pay the ATO, with examples ranging from under $500 to more than $35,000.

The revolt against Baby Boomer wealth

The $3m super tax could be put down to the Government needing money and the wealthy being easy targets. It’s deeper than that though and this looks at the factors behind the policy and why more taxes on the wealthy are coming.

Meg on SMSFs: Withdrawing assets ahead of the $3m super tax

The super tax has caused an almighty scuffle, but for SMSFs impacted by the proposed tax, a big question remains: what should they do now? Here are ideas for those wanting to withdraw money from their SMSF.

The super tax and the defined benefits scandal

Australia's superannuation inequities date back to poor decisions made by Parliament two decades ago. If super for the wealthy needs resetting, so too does the defined benefits schemes for our public servants.

Are franking credits hurting Australia’s economy?

Business investment and per capita GDP have languished over the past decade and the Labor Government is conducting inquiries to find out why. Franking credits should be part of the debate about our stalling economy.

Latest Updates

Superannuation

Here's what should replace the $3 million super tax

With Div. 296 looming, is there a smarter way to tax superannuation? This proposes a fairer, income-linked alternative that respects compounding, ensures predictability, and avoids taxing unrealised capital gains. 

Superannuation

Less than 1% of wealthy families will struggle to pay super tax: study

An ANU study has found that families with at least one super balance over $3 million have average wealth exceeding $19 million - suggesting most are well placed to absorb taxes on unrealised capital gains.   

Superannuation

Are SMSFs getting too much of a free ride?

SMSFs have managed to match, or even outperform, larger super funds despite adopting more conservative investment strategies. This looks at how they've done it - and the potential policy implications.  

Property

A developer's take on Australia's housing issues

Stockland’s development chief discusses supply constraints, government initiatives and the impact of Japanese-owned homebuilders on the industry. He also talks of green shoots in a troubled property market.

Economy

Lessons from 100 years of growing US debt

As the US debt ceiling looms, the usual warnings about a potential crash in bond and equity markets have started to appear. Investors can take confidence from history but should keep an eye on two main indicators.

Investment strategies

Investors might be paying too much for familiarity

US mega-cap tech stocks have dominated recent returns - but is familiarity distorting judgement? Like the Monty Hall problem, investing success often comes from switching when it feels hardest to do so.

Latest from Morningstar

A winning investment strategy sitting right under your nose

How does a strategy built around systematically buying-and-holding a basket of the market's biggest losers perform? It turns out pretty well, so why don't more investors do it?

Sponsors

Alliances

© 2025 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.