4. 4
Investment Case
Recommendations
Alphabet Inc. has become a juggernaut multinational conglomerate encompassing several
high growth industries including technology, life sciences, capital investment and research. The
investment case for Alphabet Inc. can be summarized as follows:
1.) Competitive Advantage: Alphabet Inc enjoys a myriad of competitive advantages in it’s
primary core businesses that have allowed them to exceed, thrive and withstand the constant
fluctuations, evolutions and trends that happen in the technology world that has started to
transcend it’s own industry and into other fields like never before. Dominance in web search,
video content sharing, online advertising, mobile OS, browser usage and many other markets are
major hallmarks of Alphabet Inc.’s flagship business Google. Google is an Internet company that
primarily competes in the web search and online advertising markets. However, the company’s
product portfolio is very diverse and includes both related and unrelated hardware and software
products and services. Google dominates most of the markets it operates within. Strong and ever
growing brand awareness gives the company an unparalleled market leadership and immense
brand leadership allowing it power over customers, suppliers, and competitors.
2.) Interconnected Software/ Hardware Ecosystem: Google has displayed its vision for a
more ubiquitous and conversational way of interacting with technology. Its Assistant is chattier,
answering natural language queries with a more human voice, and it’s found its way into several
new Google products: the messenger Allo and the Echo-like speaker Home. Both are areas
where other companies have a lead, but Google’s strength in AI gave these services some nice
twists, doing things like automatically generating surprisingly specific reactions to photos.
Google has rolled out a long-term platform and Alphabet Inc.’s other subsidiary segments in
various stages of research such as self-driving cars, smart urban infrastructure and development
in Cloud computing has allowed to facilitate for an interconnectedness not only in people, but in
the various technology products that go past just phones but into everyday life.
3.) Information Analytics: Google Search is the company’s search engine that people use to
find information online. It’s the most widely used search engine in the world with a 67.86%
desktop market share and more than 90% share of the mobile segment. Google’s search engine
domination is especially prominent in Europe with the company having more than 90% market
share in both the desktop and mobile market segments. Google receives an enormous amount of
information about its users and their habits through Google Search, Google Analytics, YouTube,
Android OS, Chrome and its other products and services. This information provides Google with
a key competitive advantage. Google can target advertisements or adapt its products to its users’
needs better than any competitor, because it has both smarter algorithms and much more
information about its users.
4.) Online Advertising: Google’s main source of revenue is its advertising business. In 2015,
advertising generated US$67.4 billion or 90.4% of the company’s total revenue. According to
eMarketer. Google earns more than 30% of the world’s digital advertising revenue, 4 times as
much as the next largest earner, Facebook. The company dominates the digital advertising
5. 5
market through many different channels, including its own AdWords advertising program,
AdSense, YouTube and the Android OS. By dominating the online advertising market Google
can better understand current advertising trends, collect an enormous amount of information
about online users’ shopping habits, and enhance their related services by improving targeted
advertisements.
5.) Growth in Virtual Reality & Augmented Reality: The potential in virtual reality presents a
massive upside in the next decade and coming years the amount of research and development
donated toward virtual reality as well as the potentially even more profitable, augmented reality
puts Alphabet Inc.’s primary business core in a unique situation to capitalize on this emerging
growth. AR now appears largely focused on enterprise users this year, with most consumers AR
expected to launch around 2017 (although wild cards like Magic Leap could change that). AR
now forecast to hit $90 billion by 2020. VR’s topline remains largely unchanged, with $30
billion forecast by the end of the decade. The timing change also moves the tipping point for AR
passing VR from 2018 to 2019.
Company Overview
Alphabet Inc., incorporated on July 23, 2015, is a holding company. The Company holds
interests in Google Inc. (Google). The Company's segments include Google and Other Bets.
Google segment includes Internet products, such as Search, Ads, Commerce, Maps, YouTube,
Apps, Cloud, Android, Chrome, Google Play, and hardware products, including Chromecast,
Chromebooks and Nexus, which are sold by the Company. Its technical infrastructure and
Virtual Reality are also included in Google segment. Google segment is engaged in advertising,
sales of digital content, applications and cloud services, as well as sale of Google branded
hardware. The Other Bets segment consists of various operating segments and includes
businesses, such as Access/Google Fiber, Calico, Nest, Verily, GV, Google Capital, X and other
initiatives. Other Bets segment is engaged in the sale of Nest hardware products, Internet and
television services through Google Fiber, and licensing and research and development (R&D)
services through Verily. Rapid growth since incorporation into a holdings company in 2015 has
triggered a chain of products ad partnerships beyond the Google search engine. It offers services
designed for work and productivity (Google Docs, Sheets and slides), emails, scheduling and
time management (Google calendar), cloud storage date (Google Drive), social networking
(Google+) and instant messaging and video chats just to name a few of their diversifiable
segments.
Alphabets largest subsidiary being Google but is also the parent company of Calico, GV, Google
Capital, X Google Fiber, Jigsaw, Sidewalk Labs, and Verily. While many companies or divisions
formerly were a part of Google, they became subsidiaries of Alphabet while Google remains the
umbrella company for Alphabets internet-related businesses. This also including YouTube.
6. 6
Financial Analysis
The major financial statements help to give better financial understandings to both
external and internal users to help track, trend and forecast where the company is heading, where
they have strengths as well as what their weaknesses are. The Income statement provides
revenues and expenses incurred generating those revenues in a period of time through both
operating and non-operating activities. The statement of cash flows provides aggregate data
regarding all cash inflows a company receives from both its ongoing operations and external
investment sources, as well as all cash outflows that pay for business activities and investments
during a given quarter. The balance sheet is a snapshot in time of a company's assets, liabilities
and shareholders' equity.
A. Liquidity Ratios
Liquidity ratios attempt to measure a company's ability to pay off its short-term debt obligations.
It’s a process that can be done by comparing a company's most liquid assets (or those that can be
easily converted to cash) to its short-term liabilities. Analyzing Alphabet Inc.’s, we observe the
current ratio, which stands at 4.67 in 2015, with an estimated 5.43 to finish the 2016 fiscal year.
2013 to 2015 the ratio held steady near in the 4.6 to 4.7 ranges, but had increased significantly
for the 2016. This increase generally trends positive towards the company’s growth in assets
relative to their liabilities, which indicates rapid internal growth. Although this alone isn’t
indicative, it’s clear they aren’t in range to indicate a inefficient use of assets (which may lead to
an extremely high ratio.) The quick ratio (although Alphabet is primarily a software company,
meaning little inventory) has experienced similar gains. Their cash from operations is estimated
to finish 2016 at 1.7 whereas the last 5 years dating 2012 have remained consistent around 1.2. It
is measuring the amount of cash; cash equivalents or invested funds there are in current assets to
cover current liabilities. The company has more cash and cash equivalents than current liabilities.
In this situation, the company has the ability to cover all short-term debt and still have cash
remaining.
B. Asset Management Ratios
Asset Management Ratios attempt to measure the firm's success in managing its assets to
generate sales. For example, these ratios can provide insight into the success of the firm's credit
policy and inventory management. These ratios are also known as Activity or Turnover Ratios.
Being a tech company primarily in its central business core, Alphabet doesn’t currently maintain
any overriding inventory. This is expected to change in the coming years at it’s diversifying is
revenue stream by reattempting to enter the hardware aspect of the industry through the sale of
phones and etc. Ignoring this, we look at the Days sales outstanding (DSO) is a measure of the
average number of days that a company takes to collect revenue after a sale has been made. This
has actually decreased over the years to 47.18 based on 2016 estimates coming down from 52.91
in 2012. As this is correlating with expanded revenue streams this decease seems to be on a
constant trend. The Fixed asset turnover rate indicates how well the business is using its fixed
assets to generate sales, similar with the total asset turnover. Generally speaking, the higher the
asset turnover ratio, the better the company is performing, since higher ratios imply that the
company is generating more revenue per dollar of assets. Yet, this ratio can vary widely from
7. 7
one industry to the next. When analyzing the tech industry for comparative values we realize
from 2012 to 2015 (actual values), the fixed asset turnover actually decreased from 4.29 to 2.8
which could signify an overinvestment in Property, Plant and equipment but this is typically a
small number in general when it comes to tech companies. The total asset turnover however has
maintained steady over the past 5 years to .55. This is very telling, because as the assets of
Alphabet Inc has considerably grown, it is in relationship with the growth in revenue and it
shows an extremely consistent makeup indicating revenues have grown accordingly with the
increases. The accounts receivables turnover has greatly increased from 7.2 in 2015 to an
estimated 7.8 in 2016 and this has consistently grown overall over the past 5 years indicate that
the company’s collection of accounts receivable is efficient, and that the company has a high
proportion of quality customers that pay off their debts quickly.
C. Debt Management Ratios
Debt Management Ratios attempt to measure the firm's use of Financial Leverage and ability to
avoid financial distress in the long run. Debt generally represents a fixed cost of financing to a
firm. Thus, if the firm can earn more on assets, which are financed with debt than the cost of
servicing the debt, then these additional earnings will flow through to the stockholders.
Moreover, our tax law favors debt as a source of financing since interest expense is tax
deductible. Alphabet Inc.’s debt to asset ratio has declined on a rapid basis from 2012 at 18%
toward an estimated finish in 2016 to 13% (14% 2015 ratio). This indicates a high level of
financial flexibility due to the fact Alphabet Inc. hasn’t run significant debt margins and has
actually lowered them over time. This puts them in more promising regards when it comes to
their growth model of the next few years to allow for massive expansion relative to competitors.
It’s even more accurate when comparing over time that this has decreased better giving the
indications Alphabet Inc. can be expected to be much more financial flexible with their cash
outlays and inflows as they embark on expanding their revenue stream in the next 5-10 years.
D. Profitability Ratios
Profitability ratios are a class of financial metrics that are used to assess a business's ability to
generate earnings compared to its expenses and other relevant costs incurred during a specific
period of time. For most of these ratios, having a higher value relative to a competitor's ratio or
relative to the same ratio from a previous period indicates that the company is doing well.
Different profit margins are used to measure a company's profitability at various cost levels,
including gross margin, operating margin, pretax margin and net profit margin. The margins
shrink as layers of additional costs are taken into consideration, such as cost of goods sold
(COGS), operating and non-operating expenses, and taxes paid. Alphabet Inc.’s return on Assets
calculates relative to costs and expenses, and it is analyzed in comparison to assets to see how
effective a company is in deploying assets to generate sales and eventually profits. The more
assets a company has amassed, the more sales and potentially more profits the company may
generate. As economies of scale help lower costs and improve margins, return may grow at a
faster rate than assets, something similar to the high volatile fluctuations that exist in the
technology fields and has allowed this industry to take the forefront to monetary gains over the
past 15 years. The ROA has remained consistent in for the past 5 years at 9%, which correlate to
their consistency in the total asset turnover ratio. Return on equity is a ratio that concerns a
company's equity holders the most, since it measures their ability of earning return on their
8. 8
equity investments. ROE may increase dramatically without any equity addition when it can
simply benefit from a higher return helped by a larger asset base. This has experienced a
generally consistent but downward trend since 2012, changing about 3% from 18% to 15% for
the estimated 2016 ratio. Because of Alphabet Inc.’s low use of debt to finance much of its
growth, this would eat into ROE and can explain this figure. This holds true for Alphabet Inc.’s
overall consistency in profitability when looking at their profit margin maintain a 22% over the
last 3 years and only slightly up in 2012 and 2013 at 23%. Google has multiple streams of
income. Many of Google's revenue sources have experienced tremendous growth over the years.
he company's proprietary advertising service, Google AdWords, continues to be a major
contributor to Google's revenue at 68%, or $45 billion in 2014. In 2015, Google's aggregate paid
clicks, a key advertising measure, and rose 31% from the previous year, beating the consensus
expectation of a 22% rise. Across all industries, companies continue to drive up the cost per
click (CPC). In 2011, the insurance industry commanded 24% of Google AdWords revenue, for
as much as $54.91 for top keywords, including "auto insurance price quotes" and "life insurance
comparison quotes." Google's other projects are driving down the profitability of the company.
As long as Google continues to increase its search advertising revenues, the company is able to
support pursuing the other business lines, these bet subsidiaries are projects that may at some
point turn around but have no hindered Alphabet Inc.’s overall growth due to it’s time proven
consistent revenue generating systems it relies on which is well balanced in Alphabet Inc.’s
portfolio of companies.
E. Market Value Ratios
Market value ratios are used to evaluate the current share price of a publicly held company's
stock. These ratios are employed by current and potential investors to determine whether a
company's shares are over-priced or underpriced. These ratios are not closely watched by the
managers of a business, since these individuals are more concerned with operational issues with
potential investors however, these are significant in terms of capital gain yields and other
investor metrics whether with portfolio accounts or etc. The price to equity ratio (P/E) is the ratio
for valuing a company that measures its current share price relative to its per-share earnings. In
essence, the price-earnings ratio indicates the dollar amount an investor can expect to invest in a
company in order to receive one dollar of that company’s earnings. The prior 2012 to 2015 rates
have shown at 3% with 4% estimated for 2016. This is why the P/E is sometimes referred to as
the multiple because it shows how much investors are willing to pay per dollar of earnings. In
general, a high P/E suggests that investors are expecting higher earnings growth in the future
compared to companies with a lower P/E. A low P/E can indicate either that a company may
currently be undervalued or that the company is doing exceptionally well relative to its past
trends. The price to book ratio for Alphabet Inc. stands at 4.32, meaning the company is
currently trading 4.32 it’s book value.
9. 9
Sector & Industry Outlook
In the 21st
century, we have born witness to the immense power at the helm that is the Tech
industry which has fully transformed not only people’s way of life but in the manner and conduct
by which we go about business and further the progress for transformative technology.
Technology is the backbone of the digital economy. The rate of change and the level of
disruption driven by modern technology are exponential. Advancements in computer processing
power, data storage, and chip design; the ubiquity of bandwidth; enterprise mobility; and many
other developments that have unfolded in recent years are enabling myriad opportunities that
were once impossible, both technologically and economically. Now, we have reached a tipping
point where cognitive computing, big data analytics, cloud computing, and the rapidly growing
Internet of Things (IoT) are transforming businesses around the globe—including those outside
the technology sector. We’re also seeing promising advancements in materials, software,
fabrication techniques and machine design that are likely to lead to an expansion in enterprise
applications for additive manufacturing (3D printing). Meanwhile, in the technology industry
itself, enterprises are making plans for the next economy rising from today’s disruptive and
unprecedented change.
One of the more interesting recent market trends and potentially blockbuster technological
breakthroughs is the move of Virtual Reality (VR) and Augmented Reality (AR) into the
mainstream. According to BIS Research (Business Intelligence and Strategy Research), a market
research hand advisory company, the global AR and VR market is estimated to grow over $161
Billion and $17 billion by 2022 at a CAGR of 85.4% and 44.5% respectively through the 2015-
2022, with North American leading the Market.
We see early signs of similar trends emerging in the IoT, cognitive technologies, and potentially
other areas. With the IoT, we anticipate that there will be a handful of large open platform
providers. The smartphone is an early example of a platform that, once opened to the developer
community, resulted in millions of applications. However, they will pave the way for the
emergence of many other players in the IoT ecosystem (for example, companies providing
solutions or applications for specific industries). Platform providers will be responsible for
orchestrating the ecosystem by ensuring their platforms are interoperable. The current wave of
divestiture activity in the industry underscores the struggle many companies with diverse
business models are experiencing in sustaining profitable growth. These businesses—many of
them multinationals—are divesting not to become smaller, but to increase focus, making them
more “fit” to dominate a specific part of the technology ecosystem. Once the divestiture activity
cools, we expect to see a series of acquisitions, as many of these same companies seek to scale
for greater concentration in their chosen area of focus.
Global regulators, increasingly focused on the digital economy and technology companies, see
opportunity to increase revenues through taxes and incentives. While regulatory uncertainty
around taxation doesn’t change, the fact that global markets are part of the essential expansion
channel for most technology companies in the 21st
century. It does mean that many of these
businesses will need to manage regulatory uncertainties when implementing their growth
strategies.
10. 10
Risk & Reward
The growth that Alphabet Inc. intends to make with the diversifying systems and ecosystem with
Google and their other projects is a precursor to major transitions from other competitors and is
the reason why Alphabet Inc. has exhibited immense investments in the past few years. Alphabet
Inc. has robust research and development (R&D) capabilities. The R&D activities of the
company focus on improving the performance of products and developing new technologies. The
R&D team of the company initiated several projects to enhance and develop various products
and technologies. The company leases additional R&D, and sales and support offices across the
US. The company’s R&D expenses were US$6.1 billion, US$7.1 billion, and US$9.8 billion in
2012, 2013, and 2014, respectively. The R&D department employs 20,832 people. Strong focus
on R&D enabled the company to develop innovative products. For instance, in February 2015,
the company launched PerfKit, an open-source cloud-benchmarking tool. Google has been
working on an innovative project of self-driving vehicle technology since 2009 which may
provide growth opportunities to the company. In May 2014, Google announced to launch its own
fleet of 100 autonomous vehicle prototypes. The self-driving car will have no steering wheels,
gas, accelerator and brake pedals. The car will be equipped with extra safety features, lasers,
sensors, radar and computers to map and drive software to allow the vehicles to be driven
autonomously. Such innovative projects may enable the company to have huge growth
opportunities.
The company may benefit from its recent initiative to strengthen its mobile wallet technology. In
February 2015, Google acquired Softcard Technology (Softcard), a company jointly owned by
AT&T, Verizon, and T-Mobile. Softcard is an NFC-based mobile payment service and helps
more Android users get the benefits of tap and pay. This acquisition enables the company to
improve its existing mobile wallet technology, Google Wallet application, and helps Google to
better compete with Apple Pay mobile payment service. The company has taken several strategic
initiatives to strengthen its home automation offerings. In this direction, in January 2014, the
company acquired Nest Labs, Inc. (Nest), one of the leading developers of thermostats and
smoke alarms. The acquisition is expected to enhance Google's suite of products and services in
the home automation. Also, in June 2014, the company, through Nest, acquired Dropcam, Inc.,
surveillance camera maker in the US. The acquisition further broadens Google’s home
automation portfolio. These strategic initiatives may provide the company growth opportunities
to expand its presence in home automation market.
Invalid clicks pose a major threat to companies such as Google. Since the company derives a
majority of its revenue from advertising, fraudulent clicks could expose it to related lawsuits.
Click fraud artificially inflates the number of clicks, and increases pay per click advertising fee
charged to advertisers. Increasing number of click frauds may also result in the company being
compelled to refund the fee to its advertisers. The victimized advertisers may also file lawsuits
against Google. Thus, avoiding invalid clicks should remain the company’s highest priority as
they could have an adverse effect on the company’s brand image and profitability.
Google operates in a highly competitive market, which could affect its business and operating
results. Competition could intensify with the entry of new competitors, development of new
technologies, products and services and convergence. The company witness’s competition from
11. 11
general-purpose search engines including Yahoo and Microsoft’s Bing; and social networks such
as Facebook and Twitter. It major competitor in mobile application market is Apple Inc. The
increase in competition also forced the company to exit from some of its businesses. For
instance, Google closed its social networking business, Orkut on September 30, 2014. This is
primarily due to non-performance of business in other part of the world, except in India and
Brazil, as a result of intense competition from its rivals such as Facebook. Some of the
company’s key competitors have undertaken expansion programs to match the growth rate. For
instance, in February 2015, Samsung Group acquired LoopPay, a mobile wallet provider
allowing wireless payments. LoopPay app inputs and stores payment card information, and can
wirelessly communicate with existing tap-to-pay terminals available at merchants and retailers. It
also does not require updated hardware in most stores as it works by mimicking mag stripe
technology. This acquisition enables Samsung to use LoopPay’s technology to compete with its
competitors such as Google Wallet and Apple Pay.
Summary
Alphabet Incorporated has shown a high level of competency and efficient competitive nature
thanks to their dynamic leadership as well as innovative vision as many of the worlds leading
tech companies are looking to sort their way and place into the next decade as the era of iPhones
dominating the consumer market shifts from connecting people, toward connecting all forms of
technology that will merge into smart driving, smart cities, and home use. The battle of cloud
data space and emergence of the AR and VR market space has led Alphabet to invest in these
fields while maintain a large search engine use even with uprising competitors from the likes of
Amazon and Facebook on both fronts. Google has positioned itself delicately in a transitory
period in their re-entry into the smart phone and hardware aspects of the Industry in the hopes
attaining some form of market share here will allow their long term vision of their unique eco-
system to come together. Benefitting from a number of competitive advantages and a new line
release of products to push its way through, they have demonstrated considerable failures before
but have the assets to absurd any losses in the hopes that one of their other projects outside of
their core business model will succeed which will eventually propel them. As has been reviewed,
a fundamentally sound analysis of their financial health both internally and propensity for their
growth gives a company a unique ability to adapt with the changing environment. There are
considerable risks as many major competitors ranging from Samsung, to Apple, Facebook,
Amazon and the like puts the tech industry in the prime and major reason why it exhibits so high
a volatility. Google has shown an effective consistency despite their plunders and failures in
underperforming assets and will see a realization of these ventures at some point as both the
current business landscape and consumer market will exhibit high demand when the change fully
manifests and alphabet Inc is priming itself to be right in the center of it as a dominant leader in
the industry.
