Why We Maintain Our $1,200 Price Estimate For Alphabet
Alphabet (NASDAQ:GOOG) has witnessed strong growth in revenues from the core Google advertising segment in recent years. This is primarily attributable to a consistent increase in the number of paid clicks on Google-owned properties as well as network members’ properties. The company has been able to monetize the paid clicks very effectively, due to which combined ad revenues have surged from $65 billion in 2015 to over $95 billion in 2017. We expect the figure to be almost $115 billion for the current year. In recent years, the company’s stock price has surged from $700 at the beginning of 2016, to $800 in January last year to around $1,200 currently.
We expect Alphabet to maintain its revenue growth trajectory, with core businesses driving top line growth in the near term, In addition we expect the company’s other segments to complement growth in core advertising. We have created an interactive valuation dashboard for Alphabet, where we have summarized our expectations for the company’s expected 2018 results, which form the basis of our $1,200 price estimate for the company. You can change expected segment revenue and net margin figures for Alphabet to gauge how changes will impact its value.
Strong Revenue Growth to Continue
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Alphabet’s net revenues increased by over 20% annually in 2016 and 2017 to $90 billion and $111 billion, respectively. This was largely due to its core Google properties (search ad and related) revenues increasing at the same pace to $64 billion and $78 billion through 2016 and 2017, respectively. The total number of paid clicks have grown massively at 45-55% in the same period. We forecast the trend to continue through 2018, with high-teens growth in Google properties revenue and Alphabet net revenue.
In addition, Google Network Members’ Properties revenues – which include revenues generated from Google search engine’s network website partners – have also increased, albeit at comparatively modest rates in the same period. We forecasts these revenues to increase at 7-8% through 2018 to nearly $19 billion.
On the other hand, Alphabet’s other revenues (apps, in-app purchases, digital content, smartphones, licensing, Google Cloud offerings such as Docs) have grown massively at over 40% in recent years. This has been the fastest growing revenue stream for the company. We expect this trend to continue in the near term, with these revenues increasing by 35% to over $19 billion in 2018.
In terms of profits, Alphabet’s net margin stood at around 29% through 2015 and 2016. This figure fell significantly to 18% in 2017 for two main reasons. First, the total tax paid by the company surged due to one-time charges under the Tax Cuts and Jobs Act. Secondly, the company was fined €2.4 billion (nearly $3 billion) by the European Commission last year for favoring advertisers that used its services to display and rank their shopping search results higher in listing. We expect the company’s net margin to rebound to around 23%, implying net income of about $31 billion and EPS of almost $42 per share. Our forecasts are slightly higher than consensus estimates.
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