What’s in a name? Why Google's transition to Alphabet is great news for investors

 
Bolko Hohaus
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"Greater visibility is fantastic news for investors" (Source: Getty)

Companies change names and rebrand when they wish to turn over a new leaf, or refresh their perception amongst key stakeholders. Some work, some don’t - just think about Britain’s Royal Mail and its short-lived rebranding to “Consignia”. That name change quickly got lost in the post. And remember PwC’s abortive attempt to switch to “Monday”?

On Monday, Google announced it would metamorphose into “Alphabet”, creating a new holding company with that name. The core Google search business would sit inside this holding company, alongside the A-Z of other businesses Google has invested in or founded, including YouTube, Nest, Life sciences and Calico.

The name Alphabet - or “Alpha-bet” - is less an allusion to the 26 letters and more a clear reference to some of the wackier businesses in Google’s portfolio: its so-called moonshots, capital-intensive businesses that may not succeed, and yet may prove to be the sort of wildly-successful technological breakthroughs that truly change people’s lives.

Read more: How Google is breaking corporate branding rules to get its Alpha-bet to pay off

While investors are content to support new business verticals that could deliver tomorrow’s bottom-line growth and drive Google’s share price ever higher, they also want a better understanding of how much is being spent on each business and how well they are performing.

This is where the real revolution is happening.

Each of the businesses will get a separate chief executive. For the core Google search business this will be Sundar Pichai, an experienced executive who has been with the company since 2004, most recently lately in charge of its consumer products with the exception of YouTube. This should ensure a smooth transition.

Read more: Three things you should know about Google's new chief

For a company that previously was light on disclosure, stakeholders will now get a segmented report with this year’s fourth quarter results. This will be just as exciting as when Amazon recently disclosed the profitability in its cloud business. It seems that transparency is the new byword in Silicon Valley and greater visibility is fantastic news for investors.

We know that Google has a highly profitable search business, but this cash cow has been used to fund new projects, many of which we don’t get any metrics for, such as cash burn or return on investment. Investors crave this reassurance.

Witness Google’s 16 per cent share price pop last month after newly-installed chief financial officer Ruth Porat promised to deliver better cost discipline and more transparency. Running the businesses separately could lead to more focus for each of them.

What does that mean for the stock? Some estimates put the sum of money invested in new projects at $4bn. Assuming that number is correct (with similar-sized operating losses) it would imply that the operating profit of “Google Core” is $4bn or 15 per cent higher than the currently reported profit.

Google’s price-earnings ratio drops from 19 to 16 times 2006 earnings, when in our opinion a multiple of 20 would be more appropriate. This translates into a 25 per cent uplift in the share price.

Add in YouTube and cash on its balance sheet, and the uplift could come to 40 per cent.

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