No one likes to say good-bye, so some people just don’t. One week ago today, for example, Jon Stewart told viewers the world over that he was “going to get a drink,” then ended his more than 16-year run of the show. Then, this Monday, Larry Page said that he was “really excited to be running Alphabet as CEO” with help from his capable partner and Google co-founder, Sergey Brin, as president, and ended his 17-year run as head of Google.
That’s the way some industry watchers, including Mark Mahaney, an Internet analyst at RBC Capital Markets in San Francisco, see the news of Google’s restructuring, although Page’s move away from classic Google hasn’t been discussed much in the financial press. Sure, as Page’s blog post announcing the change made clear, the new “slimmed down” version of Google will be wholly owned by new company Alphabet — but so will a lot of other businesses, each with their own CEO. Page is going to dedicate much of his energy to those interests instead.
“I could have rewritten that letter a little differently and had it say, ‘I’m Larry, and I’ve really enjoyed working at Google, and I love the people there, but I really want to focus on other parts of the business.’ I think people would have had a different reaction,” Mahaney tells Institutional Investor. (Brin had already moved away from Google’s main search business.)
Mahaney responded positively to the restructuring, calling it on CNBC a “modest catalyst” because it indicated better transparency — one of four things he says investors have wanted from Google. The other three are revenue growth, consistency and margin stabilization. “Now the market will be able to see how much more profitable the core Google business is when you strip out all these moonshots,” he says. (“Moonshots” are what Google calls research projects for technological advancements carried out at its lab Google X, such as driverless cars.) Mahaney believes that if Google lets investors in on what’s happening with the search business, they would be pleasantly surprised to find that growth is in the low to midteens, and still sustainable.
The analyst isn’t suggesting that Page’s departure should be read as a warning sign to investors, however. If the chief is disengaging, his interests have shifted, so his leaving may be best for the business. What matters is who follows him. In this case, Sundar Pichai, named CEO of Google, has already been in Google’s upper echelons for a while, so the transition should be rather seamless. RBC reiterated its outperform rating on Google and $750 price target.
At Bank of America Merrill Lynch, where research by San Francisco–based Internet analyst Justin Post estimates that Google loses about $4.4 billion per year on moonshots, the company’s bombshell announcement also elicited a bullish $750 price target.
Only a few major research firms and investment banks, including Goldman Sachs, remained neutral. Why Google decided to make this change now is not something that investing experts fully agree on.
Google will now encompass a cluster of related companies, including search, Chrome, Android and YouTube — the businesses responsible for nearly all of Google’s $66 billion in revenue for 2014. Almost 90 percent of that revenue came from advertising, mostly attached to search results and YouTube videos. Other brands under Google’s umbrella, such as biotech research division Calico, broadband and cable television provider Fiber and programmable home automation devices from Nest Labs, will fall under Alphabet’s purview.
Many attribute the shift to the arrival of CFO Ruth Porat from Morgan Stanley five months ago. Scott Kubie, chief strategy officer at CLS Investments in Omaha, Nebraska, feels that Porat’s presence and the signs of cost controls in the better-than-expected latest earnings report are together “very powerful” from an investor’s point of view. “This is a company that has an extremely profitable division but no real clear capital control, and it has made a commitment to provide transparency,” he says. “People will have a chance to evaluate what’s working and not working.”
Tech investors like to see things grow, Kubie says, but eventually they want companies to produce returns: “Investors want to make sure that if it has not paid out in a dividend, the capital must be reinvested well in other ventures.” But signaling that Google will be responsible to investors while still pursuing big ideas like driverless cars benefits management, too, he says, freeing up Brin and Page to follow their innovative growth agendas and “change the world” without the pressure of quarterly reporting.
Kubie is comforted by the idea that Google, like Amazon — which began breaking out its numbers for its Amazon Web Services this year — is seeking to emulate Berkshire Hathaway. Berkshire is extremely careful with its shareholders’ money, he says, and now Amazon and Google want to send the message that they’ll be cautious too.
The real reason for the timing of this change — or even Google’s vision for its new conglomerate — may not be something investors fully understand in the near term. “Perhaps this is just where the founders are in their personal journeys,” says Mahaney. Either way, it seems certain that Alphabet and Google will look very different five years from now. Mahaney sees YouTube and Google Play becoming larger parts of the core company, and some of the moonshots maturing into strong stand-alone businesses. He says he would put his money on Nest Labs, the maker of home gadgets for the Internet of Things world.
Until then, what Google needs to do to keep investors happy is maintain revenue growth and consistent margins, he suggests. “A real surprise in the last quarter was that margins were more stable than people thought, after deteriorating for a couple of years,” Mahaney says. “If you have one quarter where margins are again deteriorating severely, the stock would trade down.”
Surely, the good-byes would then be more conspicuous.
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