Remember flipping through the Yellow Pages to find a plumber? Buying paper maps for road trips? Or paging through thick encyclopaedias in the school library?

Well, I don’t—I was born in 1999. But for many, these were everyday habits—until one company rendered them obsolete. That company is Alphabet, the parent of Google, YouTube, and a portfolio of technology businesses that have reshaped how we search, learn, and transact. What started as a PhD research project at Stanford in the 1990s is now a global giant, operating at an unfathomable scale.

In 2024, Alphabet generated $350 billion in revenue. That’s equivalent to the combined revenues of PepsiCo, Coca-Cola, McDonald’s Nike, Starbucks, and Disney. Alongside Saudi Aramco, Alphabet is one of only two publicly listed companies to surpass $100 billion in net profit.

Yet, despite its dominance, I believe Alphabet is undervalued today. That’s why we recently added it to our portfolio at Jenga Investment Partners. But what makes Alphabet especially compelling is the sheer divergence in expert opinions—some see a digital empire, while others fear rising threats from AI, regulation, and shifting industry dynamics.

While reviewing Google's early days startup story would be more fun, this deep dive focuses on Alphabet's investment case today. Here's what I'll cover: 

• Value creation: I discuss Alphabet’s value creation, which is centred on three key pillars - information discovery, technological support and entertainment.

• Business Economics: I break down Alphabet’s revenue model, cost structure and the economics behind search, YouTube and cloud services.

• Digital advertising Industry: The evolving ad landscape, competitive pressures from Amazon, Walmart, Meta, and TikTok, and Alphabet’s positioning.

• Competitive advantages and weaknesses: I assess Alphabet’s competitive advantages, introduce my quality index tool, and discuss key risks from LLMs, regulation, capital intensity and value chain concentration.

• Valuation and assumptions: I share my detailed Alphabet model, assumptions and key drivers behind my growth forecasts.

• Concluding thoughts: How Alphabet fits into my investment portfolio at Jenga Investment Partners

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Value Creation

Like the rest of Big Tech, Alphabet doesn’t fit neatly into a single industry. Traditional sector-based analysis will obscure both its actual opportunities and risks. Instead, Alphabet’s value creation is best understood across three fundamental pillars:

• Information discovery - Foundation of Google’s dominance

• Technological support - Infrastructure powering businesses and developers

• Entertainment - Ecosystem shaping digital content consumption

The first and most critical is information discovery - where Alphabet built its business but now faces new competitive pressures.

Information discovery

Search engines didn’t just replace encyclopaedias and Yellow Pages—they provided a faster, more accurate, and more adaptable way to access any information. This fundamental advantage drove the collapse of numerous industries in the 1990s. However, Google wasn’t the first search engine. Early players like Archie, created by students at McGill University (1990) and WebCrawler (1994) laid the foundations of search but lacked advanced indexing capabilities - Archie peaked at just over 50,000 search queries per day. Yahoo also launched in 1994, initially thrived as a human-curated web directory before outsourcing search to Inktomi (later acquired).

Google entered the race in the late 1990s, half a decade behind the first search engines, but it introduced a game-changing innovation: PageRank. Unlike competitors that ranked pages by clicks, PageRank prioritised relevance, delivering superior results. By 2000, even Yahoo had switched to Google’s technology—ironically helping its future competitor dominate the market.

Today, Google commands over 90% of the global search market share, handling over 5 trillion queries annually (13+ billion per day). But the search dominance doesn’t equal information discovery dominance—and that’s where challenges emerge.

New rivals in information discovery

The search market is evolving beyond traditional engines. Depending on the type of information users seek, alternatives are gaining ground:

• Social Media & Visual Search: Platforms like Instagram and TikTok are preferred for product discovery, style inspiration, and visual-driven searches. Google may offer better reviews, but these apps provide real-world recommendations from real people.

• E-Commerce Giants: When users search for specific brands with buying intent, platforms like Amazon and Walmart often provide a faster, more trusted shopping experience.

• Conversational AI: Large Language Models (LLMs) like ChatGPT pose a significant threat. AI chatbots are often faster at summarising, synthesising, and extracting key insights for complex queries requiring back-and-forth interaction.

These emerging shifts don’t just challenge Google’s search engine—they challenge its entire value proposition in information discovery. Currently, Google’s information discovery segment still contributes nearly 60% of Alphabet’s total revenue, making these threats critical for long-term investors to monitor and focusing simply on the search market misses the bigger picture and scope for Alphabet.

Like Amazon, Alphabet has also employed a culture of invent and wander. In the inaugural letter, Larry Page identified what he hoped to achieve with the transition into a holding company,

“Our goal is to develop services that significantly improve the lives of as many people as possible” - Google’s prospectus.

This principle has allowed Alphabet to venture into new verticals and dominate incumbents due to how broadly Alphabet thinks about problems. Since the original search functionality, Google has ventured into other verticals to improve its information discovery solutions: Gmail for connecting people with information from colleagues and businesses, Google Translate for translating documents across languages, and Google Meet to foster online communication, among many others. However, one functionality I view with really high regard, given its moat, is Google Maps.

Google Maps - A case study on information discovery

Launched in 2005, Google Maps has become one of Alphabet’s most indispensable tools across developed and emerging countries, and Apple Maps is the only other alternative seen as a viable competitor. In Q3 2024, Google Maps surpassed 2 billion monthly users. While Alphabet doesn’t break out product-level revenue, estimates suggest Maps contributes $10-15 billion annually, around 3% of Alphabet’s total revenue - but its indirect value is even greater.

"Today, all 7 of our products and platforms with more than 2 billion monthly users use Gemini models. That includes the latest product surpassing the 2 billion user milestone Google Maps." - Alphabet CEO Sundar Pichai. Q3 2024 Earnings call 

Google Maps extends beyond just a navigation tool:

• Local search (“best sushi near me,” “hotels in London”) - Google Maps is the first point of contact for many when searching for local stores, restaurants, hotels and general things to do in a precise location. Queries for restaurants support food discovery with ratings and reviews of real and verified customers.

• Retail & travel bookings (integrated reservation, reviews): Maps supports planning, reservation and reviews for general travel plans. A seamless integration with third parties such as Uber and Lyft for ride-sharing and direct links with OpenTable for restaurant reservations supports its ecosystem.

• Advertising (small businesses leveraging Maps for visibility): Small business can also advertise their physical stores to drive visibility, more traffic and turnover. Examples include sponsored listings where restaurants pay for top placement, click to call functionality which allows users to call a number in an ad.

Google maps also exemplifies the Alphabet moat in its own way, which I classify into four types:

• High barriers to entry and disruption: Apple Maps and open-source solutions like OpenStreetMap (OSM) are the only viable competitors. Ride-hailing companies like Uber and Lyft are the most incentivised businesses to create their own mapping and navigation tools and while they have made strides here, such as Lyft’s partnership with OSM, they only focus on solutions to support their independent drivers and not the broader navigation market. This highlights the barrier to disruption for Google Maps due to its breadth of applications.

• Network effects: As more people search for places on Maps, the more data points Google has for supporting product features, reviews, advertising features, and pricing for small businesses that are listed on Google Maps. Also, as more users review places and photos of restaurants and sites, the accuracy and information richness of Google Maps create a positive feedback loop. One example of this is the traffic congestion predictions by Google Maps; more users improve the accuracy of delays and route suggestions, improving the overall user experience.

• Integration with the broader ecosystem: Google Maps is deeply integrated with both other Google features (direct navigation from search results) and other websites and businesses. For example, many companies embed Google Maps on their individual website to help viewers locate their physical stores and offices better. Google Maps current Vice President and Head of Google Maps, Miriam Daniel, recently highlighted its broadened integration with Gemini, Google's generative artificial intelligence chatbot (previously called Bard). Users can now directly source ideas for things to do and receive suggestions directly in Google Maps.

• Globally disruptive: Finally, the best technology products can grow globally and disrupt both emerging and developed markets. By preloading Google Maps on existing Android devices, android users anywhere in the world can access and benefit from Google Maps. Google Maps has several partnerships with government entities and organisations worldwide and continues to grow its user base with over a billion users.

Beyond Google Maps, Alphabet has built and integrated several products across its portfolio that serve consumers with accurate, easy-to-access information. What makes Alphabet truly great from a value creation perspective is that it didn’t simply stop being a portal for information discovery; it extended its value creation to technological support.

Technological support

Being among the most innovative companies places companies in a better position to benefit from the optionality of new revenue drivers over time; it's more likely for Amazon or Microsoft to establish a new revenue segment than Coca-Cola or McDonald's. Technology-oriented companies have monetised this byproduct of computing power in different ways. IBM, for example, realised it could provide other businesses with technology consulting and share the expertise its core business had benefitted from. Consulting today accounts for 32% of IBM's revenue today and employs over 160,000 people. The challenge with this form of compute monetisation is that it is highly correlated with the number of people you hire, given that revenue is primarily billed per hour and consulting (and people) have a scaling limit. 

Today's technology giants have learned from this mistake and have looked elsewhere to more scalable and profitable methods of monetising (and benefiting) from their sheer internal processing and computing power, which has given rise to the public cloud market. Alphabet plays a crucial role in the global cloud industry, but before diving into the Google Cloud Platform, we must reflect on the market leader, Amazon's AWS (Amazon Web Service). 

Cloud computing’s value proposition

The cloud computing industry is pretty technical, with lots of buzzwords and complexities, but the premise and role it plays is straightforward: helping users (individuals, companies and governments) store and process information anywhere in the world.

Individuals: Before the rise of cloud providers such as Amazon's AWS and Microsoft Azure, one often needed physical storage devices to store files and documents and build private servers for computing and networking power. Today, these can be stored via cloud computing providers and accessed from any computer or device and has ushered new content formats such as gaming and movie streaming, file sharing and cloud-based productivity tools and services from graphic design to spreadsheets. 

Companies: The benefits of cloud computing for companies is quite vast. Large corporations can process large datasets for insights using artificial intelligence and machine learning models such as AWS SageMaker. Industrial businesses can easily track and monitor fleets and warehouses with sensors, among others. Financial and technology companies benefit from access to on-demand virtual machines, which support collaboration and their global workforce. While these servers can be run privately by these businesses; financial institutions like Goldman Sachs are under strict security regulations to maintain some of these in-house, while larger companies such as Meta and Tesla have the economic scale to support private cloud power, other companies, particularly SMEs don't have the financial resources to build data centres internally and thus financially benefit from working with public cloud providers like Amazon Web Services.

Governments: Government bodies need to access, monitor and analyse huge amounts of data to support policy planning and quickly deploy services to serve households, and thus, look to cloud providers to support their operations. Around the world, there are many successful case studies from the UK tax and customs body, HMRC, saving millions after migrating to AWS years ago or in Australia where its Department of Human Services deploys several services from Medicare to child support via Microsoft's Azure.

The benefits of cloud computing is vast and have been reflected in the market's scale and growth over the years, which is now estimated to be $320 billion, led by Amazon (32%), Microsoft (23%) and Alphabet (10%).

Competing with AWS and Azure

Like Amazon, Google entered the Infrastructure as a service (IaaS) cloud market after realising their internal data processing needs with search engines could be extended to other businesses. On the other hand, Microsoft was more reactionary after noticing the shift in the software market from traditional on-premise software to cloud. It launched Azure in 2008 (initially called Windows Azure) for developers before becoming commercially available in 2010 with a broader scope. 

All three cloud providers' offerings are centred around five core areas: compute, storage, networking, AI & ML, and hybrid cloud. Each have their strengths, pricing points, and unique integrations. 

As I highlighted, the cloud market is highly technical, and there are benefits to being a first mover when combined with a culture of constant innovation. There are significant costs in time, expertise, and finances with switching cloud providers, and the importance of such a decision for a company typically requires firm-wide approval. This coupled with the fact that AWS has delivered high quality and broad offerings, features and products spanning from services in AWS Elastic Cloud Compute (EC2) (6 years head start) - e.g. auto scaling (where users scale compute power based on demand and can automatically distribute traffic, improving efficiency) makes it difficult to compete with their 30% market share. 

Microsoft, while also having cloud offerings similar to AWS, found its competitive advantage with its enterprise system integration with older software like Office 365 and Microsoft Dynamic. In a survey by ifourtechnolab, they studied 17 reasons why customers migrate from AWS to Azure and found its integration with core Microsoft software was a top reason. My research also flags Microsoft's capability in hybrid cloud through Azure Arc and Azure Stack as an area of competitive advantage over peers.

Google, the last among the big three in rolling its cloud services offerings, has since found its areas of competitive strength in the cloud market. Among the five core areas, customers flag AI & ML with TensorFlow and Vertex AI as an area of competitive advantages for Google's Cloud Platform and continue to be a key selling point in new contract wins. A likely reason for Google's leadership here is its core search engine tool being an early pioneer in AI and machine learning, especially areas like search algorithms and natural language processing (NLP); the same machine learning models that power Google search are available to its customers.

“Google App Engine gives you access to the same building blocks that Google uses for its own applications, making it easier to build an application that runs reliably, even under heavy load and with large amounts of data” - 2008 Google Blog.

With all that said, Amazon's focus, first-mover advantage, breadth and pace of innovation will likely continue to cement its leadership in cloud services, but the more important question is, is there a long-term position for several key players in cloud services?

Winner’s’ take most market

There are structural reasons why the cloud could have several profitable leaders. First, for security and risk management reasons, it's common for large corporates to select two or, in Netflix's case, 3 key cloud providers in different business areas to reduce the risk to any one provider. As a result, companies may split their financial budgets across several providers, leaving an opportunity for several winners. Regulatory concerns and geopolitical barriers may open the market to several winners. In the European Union's Digital Operation Resilience Act, "DORA", concentration risk to any one public cloud provider is one of the key topics flagged, especially with financially systematic institutions and have set out regulations to reduce the concentration risk in cloud support for financial services firms.

From a geopolitical lens, Google, AWS, and Microsoft, being American companies, also limit the number of countries in which they can dominate, given the sensitivity of data stored in these data centres. We could see national champions dominate domestically over time. In China, these businesses have been banned since inception, creating an opportunity for Alibaba to dominate till date. In India, there are rumours Reliance Jio will enter the storage segment of cloud computing to support small and medium-sized Indian businesses, putting them in direct competition with Big Tech. In Saudi Arabia, the joint venture between Chinese cloud partners (mainly Alibaba) and Saudi Telecom, Saudi Cloud Computing Company (SCCC) continues to grow beyond Riyadh and win share in the domestic market. Increased global tension we see today could increase these trends of data Sovereignty & privacy for cloud computing.

Given Amazon's retail presence, potential customers may opt for alternatives to reduce the reliance on a direct competitor. Home Depot, Etsy, Target and eBay are some of the retail giants that have embraced Google's Cloud Platform in recent years, and although there are no direct comments from them, it's likely due to their direct retail competition with Amazon.

Beyond cloud computing, Google has acquired and developed several products that support individuals with various technological tools and services. One particular stand out is the Android Operating Software. To fully dive into their offerings, we need to consider its monetisation via app store purchases and explain this from the next purpose: entertainment better depicts its true scale.

Entertainment

Entertainment has evolved into a market too big to ignore for technology conglomerates; every major technology group, from Apple to Samsung, has a footing in the entertainment ecosystem. Over the past 50 years, while the time spent on entertainment and leisure has increased, the more valuable change is the level of interaction (video, conversation and immersion) with entertainment mediums (gaming, movies, music) which leads to increased monetisation; subscription services, direct "in-service" purchase and via advertising revenue. While Alphabet has monetised all three methods, the latter two, in-service purchases and advertising revenue are its key driving forces.

If we examine deeper within entertainment, companies can play the role of content creators; think of gaming developers, music labels or film producers, or distributors such as streaming apps like Netflix, Spotify app stores like Google's Play store, Apple app store social apps like Instagram, Facebook and TikTok or gaming distribution platforms like Steam, Apple Arcade among others. Through its ownership of YouTube and the Android OS app store, Alphabet sits within the distributor's role, and there are key reasons why this is the case.

First, content creators typically face "boom and bust" cycles as most content have a limited shelf life; the marginal utility of playing a game or watching a movie diminishes over time, leaving creators needing to create new content over time. Second, the barriers to entry in content creation are pretty low; creators with a computer and great ideas can become among the most streamed creators with low initial costs required.

This challenge is something Sony Group, the Japanese listed media conglomerate, realised in the 2000s and has since switched from solely owning exclusive content to licensing its content to third parties and distributing content in partnership with other media houses.

On the flip side, the role of distributors is something only a handful of companies can participate in due to the sheer scale and barriers to entry required, consumer reach and financial costs required.

Mobile

The arrival of mobile phones was crucial for Google and created a tectonic shift across the technology field. In Eric Schmidt's book, How Google Works, alongside the Internet and cloud, he flagged mobile computing as the third significant technology; 

“First, the Internet has made information free, copious, and ubiquitous—practically everything is online. Second, mobile devices and networks have made global reach and continuous connectivity widely available. And third, cloud computing has put practically infinite computing power and storage and a host of sophisticated tools and applications at everyone’s disposal, on an inexpensive, pay-as-you-go basis.”

- How Google Works, Schmidt, Eric

Mobile brought enhanced and personalised connectivity and, as a byproduct, entertainment mediums for consumers. Like search, Google wasn't necessarily the first company to seize this opportunity. Before the launch of the Android OS, Apple had launched the iPhone in 2007 with a far superior computing and user interface than anything available in the market. There was, however, an opportunity for a second player as Apple had opted for a closed loop and focused on control rather than scalability. Google open-sourced its Android software and partnered with existing mobile phone manufacturers like Nokia, Motorola and Samsung.

Today, content and apps purchased and in-app spending on the 3.5 billion active Android users represent around $45-50 billion of $350 billion (13-15% of total revenue) with near 100% gross margins. Around 80-85% of Android's Play store revenue comes from entertainment purchases like mobile gaming, in-app purchases, and subscriptions to streaming apps.

With search's dominance from a revenue generation lens, it's easy to underestimate Android's role for Alphabet. In an interview with Village Global, Microsoft's co-founder Bill Gates mentioned his biggest regret was losing the mobile OS battle to Android OS. The OS market is one where the winner usually takes the most and can maintain its dominance for a prolonged period, as shown with Microsoft's position in PC. For Alphabet, Android's benefits also go beyond just its revenue from app store purchases. Android OS reduces its reliance on Apple as the default search engine and can also pre-load its apps and tools from Google Maps and Chrome to YouTube on the billions of Android devices.

Another key pillar of Alphabet's exposure to the entertainment economy is YouTube.

Source: Statista. Number of apps on Google Play Store between 2017 - 2024. 70% of of Google Play app revenues are games, led by Garena Free Fire, Coin Master and PUBG.Apps can be monetised through subscriptions, in-app purchases and display ads.

YouTube in motion

YouTube was purchased in 2006 for $1.65 billion, and the scale of user growth and success YouTube has achieved since then remains mind-boggling. From advertising alone, YouTube achieved revenues of $36.1 billion, 22x its purchase price in 2006 and counts over 2.7 billion monthly users. 

As I mentioned, it's far more profitable and stable to focus on the entertainment distribution segment than content creation, and excluding Facebook, there is probably no other media platform that has a more integral role in society than YouTube for its content creators. Unlike Netflix, where content is often from large media houses that have multiple options for distribution, such as other streaming sites or direct-to-consumer via cinema releases so bargaining power, the majority of content creators, who typically have much smaller budgets than those of production studios, have to either rely on their sites and channels which have limited exposure or social media alternatives where they receive less payouts from views and ads.   

The six key types of ads YouTube employs to monetise adverts. In non-skippable in-stream ads, users can’t skip the video and watch the whole message. These can cost $6 to $10 per every 1000 user impression.

Recently, YouTube has diversified its revenue from advertising to more subscription-based services such as YouTube Premium (ad-free access to YouTube videos, YouTube TV (live TV streaming), and YouTube music (similar to Spotify), which brings us to the next topic on the unit economics of subscription services, advertising and cloud services. 

Business Economics

So far, I have mainly discussed the value creation Alphabet presents, explained its product and service scope, its culture for innovation and touched slightly on its respective markets. Next, I look into the unit economics for Alphabet, which is split into three key areas: Search, YouTube, and Cloud.

Note: Alphabet does not release its unit economics, active users, or user profile, so all information here is roughly guesstimated based on my internal rough calculations.

Google search unit economics

In search, Google predominately utilises the number of clicks, called cost per click (CPC) or pay-per-click (PPC), which is around $3 on average. Note that this rate depends on many factors, from the location where advertisers will be placed, industry (law, finance and healthcare tend to be pricier), time of day, and ad relevance, among others.

Estimates show that the average user initiates around 4 search queries daily, but only 20% of Google searches have ads. Furthermore, the average click-through rate (the rate at which a user clicks an ad seen on screen) is estimated at around 6-7%, which brings our annual revenue per user to around $52.56.

From a direct cost of goods sold lens (COGS), the primary cost here is the traffic acquisition cost (TAC) Google pays partners to place its search engine before its users. iPhone users would notice Google Search automatically loads up when searching on Safari. I estimate Google pays around $25 billion to its top partners like Apple, Samsung and other OEMs. This is roughly $10.7 per user at a user level, bringing our unit profitability to $44.4 or 84.4% margin before including infrastructure and cloud costs.

Search growth drivers

• Number of users and volume of daily search queries

• Number of ads per search

• Number of ad clicks per search

From the unit economics, you'd notice that payments to Apple is a key unit line for Google search, more than half. In 2022, Google paid Apple an estimated $20 billion, 16.8% of Apple's operating profits. This is due to Google's position as the default search engine on Apple devices. It is estimated that 65% of all user's searches are entered into Safari's default access point (61.8% for mobile-only devices), which provides a significant lead for search queries for Google. This dependence on Apple is a value chain challenge for Alphabet, which I will discuss later in this article.

YouTube unit economics

YouTube primarily earns revenue in two ways: subscription revenue for YouTube Premium and advertising revenue earned from advertisers. For subscription, there's a monthly $12 charge, and it's estimated that 80 million people are current premium subscribers. For simplicity, if we account for trial members and churn rates, I assume a revenue per user of around $63.

For advertising, YouTube employs a cost-per-view (CPV) methodology. YouTube reportedly has around 2.74 billion monthly active users (I assume around 1.2 billion DAUs), and I estimate the average user spends 45 minutes per day watching YouTube content. The average YouTube video is also 11.7 minutes and adjusting for "start and stop videos," which translates to roughly 5-6 ads in a day. An average cost-per-view of $0.015 brings our daily user revenue to around $30.1.

Unlike in search, YouTube's core partners are content creators who upload videos to YouTube, and YouTube has a set payment of 55% of its revenue, leading to lower gross margins near 45% (or $13.5 per user).

Note, I have used a simplistic estimate for YouTube. YouTube is far more complex, given the range of ads, from display ads to unstoppable ads, leading to a wide range in revenue generation and pricing. I also leave out infrastructure and cloud computing costs for both search and YouTube, which I will address in the next section.

Cloud

Unlike YouTube and search, the unit economics for the Google Cloud platform is mainly on a pay-as-you-go basis, dependent on usage and compute demand. Pricing range also depends on lots of factors, which also makes arriving at a range for revenue per customer or employee a wild guess. To calculate the potential unit economics for its cloud division, I signed up as a potential customer, reflecting the cloud demands of an average American business with $1.2 million in revenue and 25 employees. You can see my pricing calculator here, which estimates an annual spending of around $14,200 on GCP. The average revenue will likely be higher due to the various tier 1 customers that dedicate millions for their annual cloud budget and may request higher margin services such as GCP's AI and ML services such as Vertex AI or opt for higher tier services like BigQuery.

On the costs side, we consider the following items in our unit economics calculations:

• Infrastructure ($3,000-$3,250): Data Centres (real estate, energy, cooling and temperature control, networking and server hardware

• Cloud storage ($1,250 - $1,750): storage devices like disks, SSDs, costs related to data transfer across data centres

• Compute costs ($2,000): compute infrastructure for compute engine, processing costs and custom chips like the Google Tensor Processing Units (TPUs), server-less infrastructure for code on demand (cloud run, cloud functions)

• Software and licensing ($400): Costs for proprietary software like BigQuery and OS licenses

This gives us a total cost of $7,025, leading to unit margins of 48%. These are very rough estimates given the lack of reporting on cloud economics and the fact most of Google's infrastructure would be shared with its core search and other offerings.

Bringing its unit economics all together in the chart above, we see how Google's operating income has performed over time. For Google's services (search, networks, subscriptions and YouTube), margins have fluctuated mainly between 32% and 39%, with its best year achieved during the period in 2024, which I will discuss more about shortly. For Google's cloud division, 2023 was a transformational year as it became profitable for the first time after racking up $18.8 billion in operating losses between 2018 and 2022. 

Alphabet’s cost structure

In the two charts below, I lay out Alphabet’s cost structure grouped into its five key items:

• Traffic acquisition costs (amount paid to distribution partners and to other websites for Google Network ads)

• other cost of revenue (content acquisition costs for YouTube, data centre infrastructure and depreciation expense and general equipment costs)

• research and development (employee compensation, depreciation and third-party fees)

• sales and marketing (compensation and advertising spend)

• general admin and expenses (compensation and legal matters)

Two trends particularly stand out;

• the general admin expenses and sales and marketing costs consistent decline over the 8-year period

• Significant increase in the other costs of revenue line during the period

Alphabet dedicates significant resources to supporting its collection of businesses. They employ 183,323 people as of the end of 2024, which has grown at a compounded rate of 12.3% over the past eight years with what appears to be significantly more people dedicated to both its cloud and general R&D divisions. In the past two years, there's been a significant reduction in labour resources for general admin expenses, sales and marketing, and resources dedicated to promotional activities. Although Alphabet stopped disclosing the breakdown in employees after its 2018 earnings, I suspect sales & marketing is around 28% (53,000 employees), and G&A expenses might be 13% (24,000 employees). Another key contributor has been its reduced advertising budget, which has grown much slower than other costs and revenue, 5.7% per year for the past five years. In my valuation model, I discuss my assumptions and why we might not see similar drastic cuts in sales and marketing going forward. 

On the other hand, the “other cost of revenue” cost line has grown quite quickly, at 22% CAGR, faster than revenue, 18.5% during the same period. The reasons behind this are twofold. First, as YouTube becomes a larger portion of Alphabet's total revenue, now 10%, YouTube has to pay at least 55% to content creators, which is estimated to be around $20 billion or 20% of the other cost of revenue line. The other significant segment is the expenditure on data centres, servers, computing and all the necessary input for cloud computing. 

Alphabet will likely become an even heavier asset company over time, resulting in higher depreciation charges, capital expenditure and overall costs to its business. Today, Alphabet has data centres in 25 locations (the US hosts 8 locations), with a further 13 under development in regions like Selangor, Malaysia (reported $2 billion investment), Mesa, Arizona USA (reported 26.000 square meter size) or Waltham Cross, United Kingdom (reported $1 billion investment). Note that some of these locations host multiple data centres; Singapore which is regarded as one location, actually hosts four data centres, with the most recent data centre opened last year.

It's easy to simply allocate software and apps to "the cloud" but these services require lots of investments in physical infrastructure. Readers more interested in learning about data centres can watch this tour of the Dalles, Oregon data centre.

Accounting changes

In line with other big tech peers, there's been a shift in the estimated useful life of servers and network equipments from four to six years, which reduced depreciation expenses and had a positive impact on net income of $3 billion or 4%.While this is a significant accounting change that impacts profits, I wouldn't discuss whether this is justified in this article.

Other Bets

Beyond the key business lines, Google has a separate division called Other Bets, which hosts its various projects and startups that address problems but either aren't integrated with the rest of Google's services or are too niche. These include Calico (biotechnology addressing ageing), CapitalG (a growth fund that had invested in startups from Crowdstrike, Duolongo, Lyft, and Stripe, among others), Google Fiber (fibre optic services), Wing (drone delivery), Waymo (self-driving car), X.company (Google's sub-R&D) and Verily (life sciences). 

Among these companies, Google Fiber and Verily contribute the most to earnings, while its investment in self-driving Waymo is valued at $45 billion. Waymo recently hit 200,000 paid trips per week for its autonomous ride-hailing service and has the potential to transform the global transportation industry within a decade. While this sounds exciting, I see these as optionality and don't include them in the overall Alphabet investment thesis. 

Industry

An overview of digital advertising

Advertising has historically followed consumer engagement, adapting to the mediums where people spend their time. In the early 20th century, print was the dominant channel, followed by the rise of radio in the 1920s, television in the 1950s, and cable in the 1980s. With the advent of the internet, advertising has largely shifted to digital platforms, including social media, search engines, and e-commerce. Today, digital advertising accounts for 72.7% of total global ad spend, up from 54.3% in 2019, and is projected to reach a global market value of $870 billion by 2027.

Key digital advertising players

A deeper analysis of the digital advertising market reveals an oligopolistic structure dominated by a few key players. Services owned by the top three companies—Alphabet, Meta, and Amazon—account for 49% of the global advertising market and 66% of global digital ad revenue. Through Search, YouTube, and its Google Network Properties, Alphabet holds a 37% market share, followed by Meta at 20%. While these figures reflect a strong market position, Alphabet faces growing competitive pressures.

The chart below outlines the advertising revenue distribution among eleven of the most influential digital ad companies. Note that Apple and Walmart have not publicly disclosed ad revenue data for 2018–2020.

Alphabet under threat: Amazon effect

Before 2023, the primary concern for digital advertising leaders Alphabet and Meta was the emerging competition with TikTok. However, the real emerging threat has been Amazon. Just as Alphabet has expanded into Amazon's cloud market, Amazon has aggressively scaled its presence in digital advertising, posing an even greater challenge. The table below outlines the growth rates for YouTube, Google Search, Amazon, and Meta.

From the revenue chart, Amazon has consistently grown faster than all of Alphabet's individual properties, only falling behind Meta's growth rate in 2024—a year in which Amazon's ad revenue grew by 19.83% compared to Meta's 21.8%. Before the pandemic, Meta appeared to be Alphabet's only serious competitor in the digital advertising market. However, it is now evident that market saturation will be a greater challenge in the years ahead. While Amazon represents the most immediate threat, Alphabet's broader challenge lies in the rise of e-commerce advertising, which offers distinct advantages over traditional search-based placements. This trend is also reflected in Walmart's ad business, which has reported consecutive annual growth rates exceeding 25% since it began disclosing ad revenue in 2021 and is projected to approach $5 billion by 2025.

Even compared to Alphabet's faster growth platform, Amazon has outperformed YouTube over the past 6 years, growing at a 33.1% CAGR versus YouTube's 21.7% CAGR.

Reasons for e-commerce disruption

• Retail media networks: Amazon, Walmart and Target are investing heavily in Retail Media Networks, allowing advertisers to place ads directly on e-commerce platforms. These retail giants have more targeted data on users based on actual shopping behaviour and history (first-party data collection) and could offer better returns on ad spend compared to traditional search ads.

• Closer to consumers with intent: Compared to search, e-commerce ads are highly relevant because they reach consumers in the buying process, as opposed to more general search queries that may not indicate strong purchase intent. Search relies on keywords, and while it may be effective, someone searching for laptops on Amazon is closer to making a purchase decision.

Let's look at e-commerce markets that are more mature than the US, like China, for example. Search engines like Baidu play a lesser role than retail giants such as Alibaba due to their scale and the advantages e-commerce companies have. Now there are also internet culture and broader cultural differences that have supported e-commerce over search in the Chinese market and while I don't expect the US or Western markets to replicate their dynamics, it's crucial we are aware of this shift when estimating growth rates for Alphabet's properties and closely monitor ways Alphabet is applying its scale, innovation and resources to once again widen its gap with these e-commerce and social media players.

Next, I briefly examine key relationships in Alphabet’s value chain.

Samsung and Alphabet

Samsung has been a crucial partner for Alphabet, particularly in the Android ecosystem and default search engine agreements. Their partnership dates back to 2009 when Samsung transitioned from Microsoft's Windows Mobile to Android with the launch of its Galaxy smartphones. Today, according to Counterpoint Research, Samsung remains a key player in the smartphone market, shipping 223.5 million devices in 2023—representing 19% of global smartphone shipments. This makes the relationship integral to Google's market position.

Beyond software, Samsung is also Alphabet's critical supply chain partner, providing key hardware components for Google's Pixel smartphones. Additionally, Alphabet reportedly pays Samsung nearly $2.5 billion annually to maintain Google as the default search engine on Samsung devices. This agreement is one of Alphabet's most significant strategic partnerships, particularly in countering competitive pressure from Apple. In 2023, when The New York Times reported that Samsung was considering switching to Microsoft's Bing as its default search engine, Alphabet's stock declined by 3%, underscoring the importance of this relationship.

Apple and Alphabet

Historically, Alphabet and Apple maintained a strong relationship—Google's former CEO, Eric Schmidt, even served on Apple's board from 2006 to 2009. However, the launch of Android OS placed the two companies in direct competition, reshaping their dynamic. Today, Apple is Alphabet's most significant competitive threat across its supply chain. While their partnership has been mutually beneficial, increased regulatory scrutiny on Big Tech's dominance has placed it under the spotlight.

Internally, Alphabet has projected that it could lose 60–80% of iOS query volume if Apple were to replace Google as its default search engine, translating into an estimated revenue loss of $28.2 billion to $32.7 billion. Beyond search, Apple and Alphabet compete across multiple domains, including web browsers, mapping services, hardware (smartphones, tablets, and smartwatches), productivity software, AI assistants, app stores, and digital advertising.

Alphabet and Nvidia

As cloud computing expands in market size, importance, and reach, semiconductor companies like Nvidia increasingly play a foundational role in shaping the technology industry. A leader in graphics processing units (GPUs) and AI technologies, Nvidia has spent decades establishing itself as an indispensable force in AI development. Today, discussing AI without mentioning Nvidia's influence is impossible.

Nvidia is integral to Alphabet's cloud and technology infrastructure. As the dominant supplier of GPUs for AI workloads, Nvidia's A100 and H100 GPUs power Google Cloud's AI and machine learning offerings, enabling advanced data analytics and computational capabilities. However, the availability of these chips is crucial to the performance of any cloud provider, making supply chain stability a critical concern. Alphabet has strengthened its direct partnership with Taiwan Semiconductor Manufacturing Company (TSMC) to produce its own AI hardware, including Tensor Processing Units (TPUs), to mitigate its reliance on Nvidia. These custom-built TPUs compete directly with Nvidia's GPUs and allow Alphabet to integrate its value chain better, reducing its dependency on external suppliers for AI processing capabilities.

Beyond these companies, others such as Intel, LG Qualcomm, Broadcom, TSMC, Accenture and Foxconn are vital across Alphabet’s value chain.

Competitive Advantages and challenges

Last year, I conducted a comprehensive evaluation of how best to define and quantify “investment quality,” which I characterise as a company's ability to maintain a durable competitive advantage. Through this analysis, I identified ten key factors that contribute to investment quality. A detailed breakdown of each factor, along with my investment checklist, can be found here.

In the table below, I outline these ten metrics, assigning each a score out of ten with a concise rationale supporting the rating. These individual scores are then aggregated to determine a total quality score, which serves as a structured framework for assessing business quality. Additionally, I highlight five of these attributes in greater depth.

While these scores are not applied rigidly, they serve as a guiding framework to categorise businesses:

• High moat businesses: >75

• Emerging moat businesses: 65-75

• Low moat: 60-65

• No moat: Below 60

This quality scoring process functions primarily as a reality check rather than a definitive valuation tool. However, quality and growth are fundamental in determining the earnings multiple I am willing to pay for a business. Assuming growth rates remain constant, a higher quality score justifies a higher earnings multiple. My baseline framework assumes that the average listed company has a quality score of 63, an earnings growth rate of 6%, and would warrant an earnings multiple of 15x (forward P/E).

Alphabet’s quality score - 82

Alphabet achieved a quality score of 82, which signifies a high moat business, and scored quite strongly on new entry difficulty, balance sheet strength, and value created for society. Before diving deeper into this, I included another table below comparing Alphabet with its other big technology peers; Microsoft, Meta platforms and Apple.

New entry difficulty (9/10)

New entry difficulty assesses the barriers to entry and success for new competitors, including required R&D investment, regulatory challenges, incumbent cost advantages, and customer switching concerns. Companies with a perfect 10 score in this category include S&P Global, Moody's, and MSCI, which benefit from exceptionally high industry barriers.

Alphabet holds a dominant position in search, media (YouTube), digital advertising, and a growing presence in cloud services. YouTube stands out as the crown jewel among its assets, offering an unmatched high-moat media platform. Its strength lies in high switching costs, network effects, shared economics with content creators and advertisers, and advanced algorithmic investments. While competition exists in the broader entertainment and advertising industries, no platform rivals YouTube's position in long-form video for content creators.

Search is another high-barrier segment for Alphabet. With over 5 trillion search queries annually, Google maintains an entrenched lead. A key but often overlooked strength is Google's Advertising Network, which has built long-term partnerships with website owners, creating a sticky ecosystem. While this segment grows slower than core search, it remains durable, even in an era of AI-driven search.

Lapses in Alphabet’s barriers to entry

Despite its strengths, Alphabet did not achieve a perfect 10/10 score due to three key challenges:

• Cloud computing competition

• Advertising revenue pressures

• The impact of Large Language Models (LLMs) on search

Large Language Models (LLMs) impact on search

At the beginning of this article, I mentioned that the premise of Alphabet was to make information discovery fast, easy to access, and accurate. Google Search for a large part of the technological age had single-handedly solved this problem, until the modern LLMs era in 2017 and OpenAI's GPT-3.5 conversational LLMs years later.

These LLMs can perform an expanding array of tasks: interpreting complex queries, generating content, holding multi-turn conversations, and offering users immediate answers and solutions to various questions. The shift is not just an incremental change but a potential transformation in how people interact with technology for information discovery. The growing capabilities of LLMs present a challenge to the traditional search model that Alphabet has built its business on.

While the full ramifications of this technology on the search and advertising industry deserve a separate, in-depth analysis, here I will focus on its immediate impact on Alphabet's business, particularly regarding search and advertising revenue.

First, LLMs are a direct threat to Google's search model. The volume of ad placements is directly correlated with the number of search queries, and if users opt for LLM alternatives, the decline will lead to an immediate drop in search revenue. Alphabet has deployed several technologies to protect its revenue model from this, such as launching its own Gemini LLM (introduced by DeepMind), enrolling AI overviews to search results which try to replicate search results seen in LLM and integrating AI across its full suite of search tools from Google Maps, Google shopping and Android OS features.

Second, LLMs could structurally alter advertising dynamics and reduce the need for traditional, ad-driven content discovery in specific contexts. Rather than clicking websites, users could receive an answer directly from their query and with less user engagement with websites, which directly impacts Google Networks advertising partnership with websites, and we already see this direct impact given its impression fell by -11% in 2024 alone.

Alphabet will have to double down on investments to stay competitive and defend its business against these threats, and I reflect these investments in my valuation model in terms of capital expenditure, cost of revenue, and research and development growth estimates.

Balance sheet strength (9/10)

In assessing balance sheet strength, I prioritise companies with minimal debt, limited inventory risks (such as perishable goods or seasonal fashion cycles), low reliance on supply chain financing for accounts receivables, and substantial cash reserves to withstand external shocks. Additionally, I consider the trajectory of the balance sheet to evaluate long-term financial resilience. Companies that achieve a perfect 10 score in this category include Berkshire Hathaway, Kweichow Moutai, Visa, and Apple, all of which maintain exceptional financial flexibility and strong capital allocation strategies.

Assets in focus

Before 2018, Alphabet consistently maintained a cash and short-term investment-to-total assets ratio of at least 50%, peaking at 78% in 2005. However, over the past six years, significant investments in cloud computing have shifted Alphabet toward a more asset-intensive model. As a result, its cash position has steadily declined, reaching an all-time low of 21% of total assets in 2024. Conversely, Net Property, Plant, and Equipment (PPE) has expanded from 25% to 41% of total assets over the same period. While this transition might appear as a weakening liquidity position, it is not necessarily a negative quality factor.

A higher PPE allocation can enhance value chain control, pricing power, and competitive barriers to entry—all of which are critical to sustaining long-term strategic advantages. This trend is evident among Alphabet's technology peers, including Meta Platforms, Microsoft, and Apple. The chart below illustrates the comparative Net PPE as a percentage of total assets for these companies.

As the data illustrates, technology companies that were traditionally asset-light—Microsoft, Alphabet, and Meta Platforms—have increasingly transitioned into asset-heavy businesses. Over the past 14 years, these companies have more than doubled the proportion of Net PPE as a percentage of total assets, reflecting a strategic shift toward infrastructure-intensive growth models.

This change is particularly evident in Alphabet, Microsoft and Meta, where significant investments in data centres, AI infrastructure, and cloud computing have fuelled this shift. Alphabet's increased capital expenditures align with its expansion into cloud services, AI, and vertically integrated hardware, while Meta's surge reflects its aggressive investments in AI and the Metaverse.

While this shift implies higher fixed costs, it also reinforces competitive moats, strengthens value chain control, and positions these firms for long-term scalability. In an era where cloud computing, AI, and high-performance infrastructure are critical differentiators, the move toward an asset-heavier model may be essential for sustaining long-term dominance.

Value creation to society (9/10)

Value created for society is an off-balance-sheet asset that companies possess, reflecting how much they enhance the efficiency, health, and overall well-being of their customers and society at large. While opinions on this matter may vary, I will walk you through my rationale for assigning Alphabet a 9 out of 10 score. Companies such as TSMC, ASML, and Adobe exemplify perfect ten scores in this regard.

More efficient, more productive society

Search engines have fundamentally transformed how we access, process, and utilise information and have made it more efficient to find specific information. I couldn't imagine searching for information for this article in a world before Alphabet (and a special acknowledgement to the equity analysts of the pre-1990s era). For advertisers, Alphabet, alongside Meta Platforms, has reduced the barriers for SMEs to reach their potential user base and grow their revenues. Before search and targeted ads, only large businesses could afford the more conventional advertising mediums such as radio, TV and billboards.

With YouTube, it's never been easier for small content creators to reach their fans and grow their customer base. It democratised knowledge and information and connected different regions of the world with one another. On global connectivity, Alphabet's cloud services, alongside peers like AWS and Azure, play a crucial role today in fostering global connectivity across teams and peers. Smaller businesses can now scale their computing power without massive upfront investments required and can also access the best AI tools to improve productivity.

Alphabet creates many benefits and value, but this value has also created potential downsides for Alphabet, hence why I give it a 9, not 10.

Anti-competitiveness, monopoly behaviour and data protection

Alphabet has paid approximately $9.5 billion in legal settlements in the past decade and faced multiple antitrust investigations. By its nature, the search industry tends toward a "winner-takes-all" market, where the second player struggles to create significant value. This dynamic has resulted in Alphabet maintaining a dominant market position, which could potentially be exploited in its efforts to sustain this dominance. Furthermore, as search plays a central role in shaping the information accessible to over 3.5 billion people, Alphabet assumes a role akin to that of an "information gatekeeper."

Navigating these challenges is an inherent consideration for companies like Alphabet that aim to preserve their market leadership. Alphabet's management must allocate additional resources to strategy areas such as content moderation to address these concerns.

While Alphabet has experienced fewer self-inflicted issues than some peers like Meta Platforms, it has faced its share of controversies, the most notable being the Android antitrust case and, more recently, the demand by the U.S. Justice Department for the potential breakup of Alphabet.

Pricing power (7/10)

Pricing power refers to a company's ability to increase prices without experiencing a significant decline in volume over an extended period. Companies with 10/10 pricing power, such as Ferrari, Hermès, and LVMH, can often command premium prices due to strong brand equity and high demand. In contrast, Alphabet's pricing power is comparatively weaker, meriting a score of 7/10 in my assessment.

Search and social media companies, including Alphabet, typically utilise an auction-based pricing model to serve performance and brand advertisers. Pricing in these models is influenced by factors such as the advertising economy, consumer health, and seasonal fluctuations, meaning Alphabet has limited control over pricing. Instead, it must adhere to the laws of supply and demand.

The table above illustrates the annual growth rates of four key operational KPIs, with cost per impression and changes in paid clicks reflecting Alphabet's pricing power. Over the past eight years, the cost per click for advertisers has decreased by 55%, while the volume of paid clicks has increased by an impressive 934%.

In contrast, Alphabet's network of ads on third-party websites has grown much slower, with a mere 12% increase over the same period, largely reflecting the shift from desktop websites to a mobile-first environment. For impressions, mobile products are more valuable to advertisers than traditional websites, which is why the cost per impression has increased by 42% during this time.

This data suggests that Alphabet's pricing model is highly sensitive to demand and supply changes. Notably, the most significant declines in cost-per-click occurred during periods of rapid growth in paid clicks, particularly between 2015 and 2020.

Although Google is no Veblen good, it benefits from being a technology platform as it can easily justify higher prices with improved product quality and iterations. For example, investments in its Performance Max have improved each campaign's reach with artificial intelligence and allow advertisers to drive more value and engage with customers across Google's channels. Productivity tools like this for advertisers, as well as improving the product quality for search and its other assets, are the only ways it can justify price increases.

Beyond search and YouTube, I observe a similar pricing power profile across Alphabet's Cloud services, . While the cloud market is a growth sector, competition remains fierce, with rivals like Azure and AWS potentially influencing pricing decisions. As in search, the growth in Alphabet's cloud business will primarily be driven by volume rather than significant price increases.

Value chain control (8/10)

Value chain control measures how effectively a company can influence the fate of its products and services from the perspective of its supply chain and key stakeholders. Companies with exemplary value chain control, such as Apple, BYD, Hermès, and Amazon, demonstrate firm control over their operations. There are three primary components of value chain control:

• How well the company satisfies the needs of its customers

• Supplier concentration, bargaining power and vertical integration

• Stakeholder’s strength such as labour unions, the government and core customers

While value chain control might not always appear crucial, it becomes highly advantageous during market shocks, regulatory changes, and if customers and suppliers consolidate. A company with strong vertical integration and control over its value chain can weather such challenges more effectively.

Customer satisfaction

In this area, Alphabet excels and earns a perfect score. With over 3 billion monthly average users, seven apps with at least a billion users, and millions of advertisers, Alphabet is one of the most customer-centric companies globally with its open-sourced model. No other company offers as broad array of tools and services to satisfy customer needs. Additionally, Alphabet has mastered the art of cross-selling its products across its diverse portfolio, further enhancing the reach and visibility of advertisers.

Supplier concentration

This is where Alphabet faces a significant challenge, particularly with Apple, a crucial distributor of Alphabet's search engine tool, as it provides the default search engine for its devices. Alphabet has secured a lucrative contract with Apple, but any changes—especially with Microsoft's expanding investments in Bing—could pose risks to Alphabet's profitability and growth potential.

This dependency on Apple was likely a major driver behind Alphabet's efforts to vertically integrate with products such as Android OS, Pixel, and Chromebook. However, these investments are unlikely to fully offset Alphabet's vulnerability due to its exposure to Apple's devices.

Stakeholder - labour unions and government regulation

Alphabet also scores quite well here. There aren't any recognised labour unions with considerable bargaining power (Alphabet workers union has about a thousand members) and we don't see many risks here. On government regulation, the sensitivity of artificial intelligence means Alphabet has to abide by various government-led regulations.

Alphabet performs exceptionally well across markets, positioning itself as a high-moat business that warrants a premium multiple relative to the broader market. Compared to its peers, Alphabet outperforms Meta Platforms, though it lags behind Apple and Microsoft regarding quality ranking. This quality differentiation helps explain why Apple and Microsoft trade at a significantly higher multiple than Alphabet. Over the past decade, Alphabet has averaged a forward EV/EBIT multiple of 18.4x, but today, it's currently valued at 15.2x which is undervalued, in my view.

Valuations

Given Alphabet's established position and availability of comparable business models and revenue drivers, among others, I predominately employ a multiples approach when valuing Alphabet.

• The market: At its current forward multiple of 15.2x, Alphabet is valued below the S&P 500, which stands at 18.26x. I believe Alphabet outperforms the average S&P 500 company both in terms of quality and growth potential, making it deserving of a premium over the broader index, which, in my view, is currently overvalued as an index. A forward 13x EV/EBIT looks more realistic for the S&P 500, and Alphabet similarly deserves a significant premium to the index.

• Peers: While Apple and Microsoft command a premium relative to Alphabet, driven by their superior quality scores, the disparity in earnings multiples may be overstated. Specifically, Meta Platforms, which is currently trading at a 21.1x multiple, is priced significantly higher than Alphabet despite its relatively weaker quality. While Meta's advertising growth and resilience against Large Language Models (LLMs) in search might justify some premium, it does not warrant such a substantial gap in valuation compared to Alphabet.

• Comparable high moat businesses: When comparing Alphabet's valuation to other high-moat companies—such as financial exchanges, insurance brokers, alcoholic beverages, and grocery retailers—I believe Alphabet is relatively undervalued. These types of businesses typically enjoy substantial competitive advantages, and Alphabet, with its dominant market position, broad product ecosystem, and strong growth prospects, deserves to be valued similarly.

In conclusion, despite Alphabet's strong fundamentals and market-leading position, it is currently undervalued relative to the broader market and some of its high-quality peers, indicating an attractive investment opportunity. I compare Alphabet with 8 other quality comparable businesses in the table below. Despite having among the best return on capital, the lowest debt level, and a higher 2-year estimated forward operating earnings growth, Alphabet was among the lowest for its forward earnings multiples.

I have created my assumptions for the next five years for Google's individual business segments and costs in my model below. Note, these are my conclusions from the research into Alphabet. I have also attached a spreadsheet file, so feel free to experiment with the assumptions and use your growth rates to generate your IRR projections.

Access the spreadsheet for the Alphabet Financials Model here.

Key Assumptions

Revenue

• Search: increased competition from social media and e-commerce peers decreases the core search growth rate to 8% over the long term. Desktop-to-mobile trends continue to impact Google Network growth prospects, and I anticipate a fall in revenue over the next five years.

• Cloud: More client wins and investments in data centre and computing capability will boost revenue for cloud between 18-22% per year over the next five years

• Subscriptions: YouTube music sales continue to drive growth as it wins market share in music streaming

Costs

• Investments in technical infrastructure: Investments in data centres, equipment, servers, real estate, computing and networking will significantly grow over the next 2 years, which is reflected in the Capex growth, depreciation, R&D and COGS.

• Sales, marketing, and general admin: Slightly below revenue growth in the number of employees and investments in sales networks, advertising, and staff wages, which will improve margins over the next five years.

• Net interest expense: I assume rates fall to 2-3% over the long term and is reflected in my estimates for interest income & expenses.

• Currency exchanges: I include currency losses as a margin of safety on any US dollar appreciation

Capital allocation

• Dividends: I assume Alphabet becomes a consistent dividend payer, albeit at a low dividend yield, at just 7.5% of its total net income

• Share repurchases: I expect share repurchases to remain a material piece for Alphabet and will likely represent 58-60% of Alphabet's net income

• Share-based compensation: I include the net effects of Alphabet's share-based compensation, which I estimate to be around 21% of its net income in 2029.

From the valuation model, I anticipate a potential upside of 116.84% over the next five years, equating to an IRR of 16.74%.

Concluding thoughts and portfolio allocation

The investment thesis for Alphabet hinges on two key fundamental questions:

• Can Alphabet grow its earnings by 11.3% per year over the next five years?

• Does Alphabet’s business quality and growth prospects justify an earnings multiple of 23x by 2029?

In my view, Alphabet has the potential to achieve and justify both outcomes. Based on this, I estimate its internal rate of return (IRR), including dividends and share buybacks, to be 16.7%. This comfortably exceeds both my undervaluation hurdle (10%) and portfolio hurdle (15%). As a result, I have allocated a 6% position to Alphabet in my portfolio and will increase its position to 8.5% depending on any price falls below $150 per share (or $1.828 billion market cap). At this purchase price, my model crosses the 20% IRR mark.

To track Alphabet’s progress, I have developed internal key performance indicators (KPIs) that will allow me to monitor its performance over time. This will help me assess whether the company is aligning with, exceeding, or falling short of my expectations. As I’ve emphasised throughout this article, Alphabet is undeniably one of the most influential companies today, possessing a high-quality, high-moat business model.

That said, the company faces near-term risks and challenges that the market is currently pricing in. While I don’t expect Alphabet to navigate all these challenges flawlessly, I believe it has the resources, talent, and culture necessary to develop its own solutions and continue creating products that meet the needs of its 3 billion+ active users. Of course, your perspective may differ, and I encourage you to explore the model further and form your own conclusions.

As a fun exercise, I examined the past 50 Alphabet earnings calls and highlighted some expectations its management had set at the time and a current status. Let me know if you find any more success or failed expectations.

Information contained herein is only current as of the printing date and is intended only to provide the observations and views of Jenga Investment Partners Ltd (“Jenga IP”) as of the date of writing unless otherwise indicated. Jenga IP has no obligation to provide recipients hereof with updates or changes to the information contained herein. Performance and markets may be higher or lower than what is shown herein and the information, assumptions and analysis that may be time sensitive in nature may have changed materially and may no longer represent the views of Jenga IP. Statements containing forward-looking views or expectations (or comparable language) are subject to a number of risks and uncertainties and are informational in nature. Actual performance could, and may have, differed materially from the information presented herein. Past performance is not indicative of future results.