Alphabet – Wishful thinking

Google is not going to become Apple.  

• Google reported good Q4 19 results, but its greater disclosure unwittingly revealed that hardware has again let the side down and I fear that there is worse to come.
• Q4 19 revenue / EPS were $46.08bn / $15.35 below revenue estimates of $46.87bn but well above EPS a $12.52.
• However, revenue is everything these days and the disappointment took the shares down 3% in after-hours trading.
• For the first time, Google has disclosed YouTube ad revenues and Cloud revenues both of which are faring pretty well.
• YouTube generated $15.1bn in revenues in 2019 growing 35% YoY while Cloud generated $8.9bn in 2019 up 53% YoY.
• However, there are two areas of concern:
  • First Cloud: Cloud looks good on the headline numbers, but I think it is underperforming.
  • Google Cloud is No. 3 of the big three in the cloud (excluding Alibaba in China) and is by far the smallest.
  • Hence if it is doing well, it should be growing the fastest, but that crown goes to Microsoft Azure which is currently growing at 62% YoY.
  • It should come as no surprise that Amazon is the slowest (36% YoY) given that AWS is now so big, that it is beginning to labour under the law of large numbers.
  • The fact that Google Cloud is being comprehensively out-grown by its bigger rival is a sign that it is both losing share and relevance to Microsoft Azure.
  • Second, hardware: Q4 19 is supposed to be the sweet spot for hardware revenues and yet Google’s hardware business reported declines YoY and I think it was largely responsible for the revenue miss.
  • Google is not a hardware company and no matter how many good people it hires, its upper management does not understand this business outside of its burning desire to become like Apple.
  • This desire has already cost shareholders $16.3bn and remains one of the worst cases of engineering disease that I have ever seen.
  • The net result has been that its smartphone shipments have been no more than a rounding error despite having some of the best software and AI innovations available.
  • It has also failed to capitalise on the fact that the Google Assistant is a far better product than Amazon Alexa as it increasingly looks to me like the battle for the smarthome is over with Amazon the victor.
  • The addition of another failing hardware company (Fitbit) is not going to make much difference and so the destruction of value is likely to continue.
  • I have long contended that the best route for Google would be stop making hardware and to do a deal with Samsung.
  • This could give Samsung exclusive access to new features for a few quarters in return for creating purely Google Android products.
  • The problem is that Samsung also has a bad affliction of engineering disease and is currently labouring under the view that it can create good software services driven by its AI.
  • The execrable Bixby and the users’ reaction to it should be evidence enough that this is not the case.
  • Sadly, while both patients are in the grip of this affliction, value destruction on both sides is likely to continue.
• The thing that concerns me most is that this desire to become Apple is clouding management’s rational judgement and now it is beginning to affect the share price.
• Without hardware these results would have been quite well received perhaps even extending Alphabet’s great run.
• However, at 30.1x 2019 PER, there is very little margin for error and so I think that Alphabet shares are starting to look expensive.
• The time has come to turn indifference to Alphabet shares into an active stance of starting to take profits and investing the proceeds elsewhere.