With Google having completed its reinvention into a holding company called Alphabet (O:GOOGL), the natural question that follows is what has changed? It is easier to understand Google’s new governance structure by knowing what it is not about as much as you seek to know what it heralds.
Alphabet’s CFO, Ruth Porat, recently offered a rare glimpse into the executive understanding of Google’s reorganization. According to Porat, the move is less about cost-cutting and more about revenue growth. In Porat’s view, which is obviously shared by Alphabet executives, you cannot advance to greatness through cost-cutting alone, but you can grow revenue to greatness.
Perhaps the comment on cost-cutting and that it is not the main agenda of Alphabet means that the holding company is not going to starve any businesses/projects of the funds they need to innovate and improve. Google previously allocated a huge chunk of its capital, at 70%, to improve its core search business. Cloud and related businesses took up 20% of capital allocation and moonshots, or experimental businesses, took up 10% of the capital. Alphabet would carry on with the same capital allocation structure.
Can you buy into Alphabet’s internal view of the reorganized company structure? Yes, you can, and that’s where the question about what the new governance structure heralds comes into focus.
In the new dispensation, Alphabet has created multiple freestanding business units, effectively separating the core Google from the experimental business. The result is that investors should have clearer insight into Alphabet’s core business and moonshot projects, most of which currently consume more funds than they generate.
What also comes out clearly in the decentralized structure is that Alphabet has multiple growth verticals, many of which are long-term shots.
How Alphabet Mirrors GE
Alphabet has created an organization that can be compared to General Electric's (NYSE:N:GE) transformative efforts to wrap growth opportunities in multiple industries. GE generated huge revenues through its light bulb business and used it as the anchor to expand into multiple markets. The company used the wealth of its light bulb business to diversify more by investing in long-term growth projects. In the way Alphabet can be seen using its already hugely successful core, Google (Search), as a foundation on which to expand and tap more opportunities in adjacent markets, but without keeping investors in the dark about what’s happening elsewhere in the system.
Multiple Ways To Win
Outside of the core Google business, Alphabet has multiple experimental businesses/projects in progress. While some of these experimental businesses, such as Nest, Google Fiber and Google Express, are already contributing revenue, most of them only consume colossal amounts of money without corresponding revenue. However, each of these experimental efforts is promising as a huge future long-term growth opportunity.
Here is a look at Alphabet’s various experimental businesses and their opportunities.
Nest Labs
Nest Labs is Alphabet’s play in home automation. The business, best known for its smart thermostats, was acquired at the cost of $3.2 billion early last year. The home automation industry is a rapidly expanding economy with multiple billions of dollars to be grabbed. Nest, already bringing partners on board and opening up its network for third-party developers, is shaping up to be a leading contender for home automation dollars.
Google Life Sciences
Through Life Sciences, Alphabet is looking to unlock new growth opportunities in healthcare and pharmaceutical space through innovative technologies. The division has already formed partnerships with some of the Big Pharma names, such as Novartis (N:NVS), to create smart glucose-monitor gadgets for diabetics. In addition to diabetes, Alphabet’s life science-focused business is also showing interest in leveraging technology to deal with medical problems, such as Parkinson’s and Alzheimer’s diseases.
The life science unit is also expanding into mental health. Google Life Science recently tapped a senior mental health expert from the government to lead its mental health research projects.
Life science is a multibillion dollar industry, and Alphabet could tap substantial incremental revenue there if its efforts are successful.
Driverless Cars
Alphabet is developing self-driving cars that have already entered road testing. Cars that do not require human operation could have tremendous positive impact on traffic congestion, public transport and public safety, thus gaining wide and rapid adoption.
Alphabet has hinted that it is not interested in going into the auto business as a manufacturer. That should be good news because the auto manufacturing industry is characterized by stricter regulations and the venture is capital intensive. Therefore, if Alphabet chooses to license its autonomous vehicle technology to established auto players, it can enter into deals with multiple partners and tap massive incremental revenue without itself getting exposed to the risks inherent in the auto industry.
Google Express/Google Fiber
Google Express (e-commerce delivery) and Google Fiber (high-speed broadband Internet/TV) are trying to upend legacy through enhanced user experience. The total addressable market in these industries builds up to trillions of dollars, and Alphabet can grab a respectable amount of it.
Investments in startups
There are also tremendous income opportunities for Alphabet to grab through its investment arms Google Capital and Google Ventures. These divisions identify and invest in promising businesses that Alphabet doesn’t already own but can acquire if the need arises. Uber and Jet.com -- an Amazon.com (NASDAQ:O:AMZN) competitor -- are some of the startups in which Alphabet has made venture investments.
There are more experimental businesses in the Alphabet neighborhood. Virtual/augmented reality, 3D printing, drones and deep machine learning are some other potential growth markets for Alphabet.
Key takeaway: Technology is penetrating every fabric of the domestic and global economy, and every legacy industry is going to get a dose of technology regardless of the degree of penetration. That means that Alphabet doesn’t have to transform itself into a biotech or auto manufacturer to tap gains from its experimental projects. The company only needs to extend its engineering and technology prowess into those industries.
The Other Side Of The Coin
Competition in search business: Google is the undisputed king of Internet search, and that is also its core source of revenue. However, the company faces competition from the likes of Bing, from Microsoft (NASDAQ:O:MSFT), Yandex (NASDAQ:YNDX) and Baidu (NASDAQ:O:BIDU), among others. Google is especially facing pressure in regional markets where homegrown rivals are penetrating faster.
Regulatory risks: Google’s success has also attracted increased scrutiny. From the U.S. to Europe, the company is facing regulatory pressures as rivals accuse it of various ills and regulators move to clip its wings.
Bottom Line
There are multiple compelling long-term growth and profitability opportunities for Alphabet. However, outside of the core Google and perhaps Google Express/Fiber and Nest, most of the underlying opportunities will take time to be accretive to Alphabet’s revenue and earnings.
Disclaimer: The opinions and data expressed herein by the author are not an investment recommendation and are not meant to be relied upon in investment decisions. The author is not acting in an investment advisory capacity, nor is this an investment research report. The author’s opinions expressed herein address only select aspects of potential investment in securities of the company or companies mentioned and cannot be a substitute for comprehensive investment analysis. Any analysis presented herein is illustrative in nature, limited in scope, based on an incomplete set of information, and has limitations to its accuracy. The author recommends that potential and existing investors conduct thorough investment research of their own, including detailed review of the companies’ SEC filings, and consult a qualified investment advisor. The information upon which this material is based was obtained from sources believed to be reliable, but has not been independently verified. Therefore, the author cannot guarantee its accuracy. Any opinions or estimates constitute the author’s best judgment as of the date of publication, and are subject to change without notice.