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If technology is ubiquitous these days, the areas where companies can make money from it seem much scarcer. In 2017, only a few sectors can be relied on to generate profitable businesses: mobile ads, streaming video, AI, and the cloud.
Alphabet has wended its way into each of these four markets. It’s not a leader in all of them — it lags behind Amazon and Microsoft in the cloud, for example — but it’s relying on a mix of these areas to keep its revenue growing by more than 20 percent a year. And for a $680 billion company that will make more than $100 billion this year, that’s an unusually strong growth rate.
Alphabet said its revenue rose 21 percent to $26 billion in the second quarter (that number was 22 percent in the first quarter). On a call to discuss earnings with analysts, CEO Sundar Pichai and CFO Ruth Porat presented anecdotal evidence and bullish (if cherry-picked) metrics to buttress the idea that the company has established a solid foothold in these four areas of tech growth.
Google’s advertising revenue rose 18 percent to $22.7 billion, driven by a 52-percent rise in paid clicks. But ad-revenue minus traffic-acquisition costs, or TAC, rose only 16 percent. Porat spun the rise in TAC costs — equal to 22 percent of revenue, versus 21 percent a year earlier — as a positive thing for Google’s overall growth. “Our strongest growth areas, namely mobile search and programmatic, carry higher TAC,” she said.
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In other words, when it comes to ads, the shift to mobile is a good thing for long-term revenue growth. Even if sometimes, like last quarter, it means slightly higher costs.
Porat noted that YouTube was a strong contributor to revenue growth, while Pichai added that 1.5 billion people visit YouTube each month, with each spending an average of 60 minutes a day watching videos on the platform. YouTube may not quite have the scale of Facebook’s 2 billion users, but it has the kind of video engagement that Mark Zuckerberg dreams about at night.
“YouTube is scaling really well globally,” Pichai said. “Just like search did.”
Google’s “other revenue” — which includes revenue from Google Play, hardware, and its cloud business — rose 42 percent last quarter to $3.09 million. Pichai said the number of new cloud deals last quarter that were worth more than $500 million tripled from a year ago, and that the company added new cloud regions in London, Singapore, and Sydney.
Underscoring the importance of the cloud to Google, Porat added that the bulk of new hires were made in its cloud business. “The most sizable headcount additions were once again made in cloud, for both technical and sales roles, consistent with the priority we place on this business,” she said. Alphabet’s employee headcount rose 14 percent on year to 75,606.
Alphabet not only talks a lot about machine learning, the company beat many in Silicon Valley to bake it into its many products. While it’s impossible to break AI out into a revenue category, Pichai claims Google’s focus on machine learning has propelled growth in many of its businesses.
“We rolled out new machine learning features in Google Maps, YouTube, Gmail, and Google Photos,” Pichai said. “We believe we have a compelling runway here. Our revenue growth and Alphabet structure give us both the opportunity and confidence to invest in our businesses for the long-term.”
This brings us to Alphabet’s moonshots — listed as “other bets” in its income statement and essentially comprising all of its non-Google business. This segment saw revenue grow, as well, albeit at a slower rate than the cloud-powered business.
Revenue from moonshots rose 34 percent — a much slower rate than the 150-percent growth that “other bets” recorded one year ago, or even the 48-percent rate of one quarter ago. Operating loss from the moonshots declined to $772 million from $855 million a year ago. And this in a quarter when Nest, an “other bet” with a shot at near-term profits, introduced its latest security camera, the Nest Cam IQ.
Porat’s stated focus on “organizational effectiveness” — that is, things that can make money sooner rather than later — is taking its toll on the moonshots. Capital spending on moonshot projects declined by 46 percent to $151 million, reflecting Alphabet’s decision to slash investments in Google Fiber. (Capital spending on Google operations, meanwhile, increased by 38 percent to $2.8 billion.)
Other bets still generate less than 1 percent of Alphabet’s other revenue. The rest, of course, comes from Google.
The bottom line
The quarter was an unusual one for Google’s bottom line. GAAP net income declined to $5.01 per share of Alphabet common stock, down from $7.00 a share a year ago. Analysts surveyed by Thomson Reuters had been forecasting revenue of $25.5 billion and net income of $4.46 a share. Alphabet beat both targets, but the stock fell 3 percent in after-hours trading on the financial report.
Most of the decline in the operating and net income figures came from a previously announced $2.7 billion fine that EU regulators imposed after ruling that Google’s search engine favored its own ecommerce offerings in its search results. Alphabet opted to record the entire impact of the fine during the second quarter.
In short, Alphabet continues to fire on all cylinders, based on its income statement, as well as the select metrics the company wants you to know. Take that 42-percent growth rate in “other revenues.” While that growth rate marks an acceleration from the 33-percent pace of a year ago, growth from the previous quarter was essentially flat. In fact, other revenue was down $5 million from the first quarter.
Asked about this, Porat deflected the question. “The other revenue line was up 42 percent year on year,” she said. “It’s a mix of businesses. Play is more hit-driven. It’s highly seasonal. Hardware is also seasonal. So the year-on-year figure offers a better sense of the dynamics.”
That may be, but it argues for breaking out these “other revenue” sources into their own line items: cloud, hardware, and Play, rather than waiting for the earnings call to spin them in a desired light. Nothing demonstrates corporate confidence better than an executive team adding a little transparency to show just how their operations are firing on all cylinders.
Separately, Alphabet named Google CEO Sundar Pichai to its Board of Directors effective July 19. “Sundar has been doing a great job as Google’s CEO, driving strong growth, partnerships, and tremendous product innovation,” said Alphabet CEO Larry Page. “I really enjoy working with him.”
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