Introduction:

With all the hype around AI and NVDA, this could be a strong catalyst for launching GOOG into its intrinsic value. Most of the climb had already taken place over the weeks. But, given that currently AI is the flavor of the month I'd be a little worried about adding more positions into GOOG. As a disclaimer, I have positions on GOOG since last year that I've been closing out and cashing in on my gains. I've linked my DCF, Revenue model and Cost model all at the bottom.

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REVENUE:

Cloud

%Rev, Cloud is an area gaining massive traction due to how much convenience it adds, And the switching cost of cloud is massive, having to port over the entire database into competitors and retraining employees, so the loyalty of Cloud customers are strong.

So, I’d argue that Cloud starts becoming a big part of GOOG’s identity.

Y/Y, Cloud grows at CAGR of 19% according to (SOURCE). I believe GOOG to be capable of capturing most of that 19%. But, 19% may be overly optimistic as it requires for the next 8 years about 40+% Y/Y which seems unrealistic to me, given how cloud is already such a large part of GOOG. So I used a Y/Y CAGR of 13.32%

Advertising

%Rev, Advertising is still going to be a big part of GOOG’s identity, however with cloud gaining traction Advertising's role may be diminished.

Y/Y, Advertising will see its Y/Y tapering off rather than taking off. I’d argue that the growth of AI related technology like ChatGPT may render GOOG’s search less effective given how ChatGPT seems to be an enhanced Google Search. Luckily, GOOG's has its own contender of ChatGPT, Bard. Bard is trained on Audio data whereas ChatGPT is trained on text data, so the effectiveness of these AI is dependent on how the user inputs data for the AI to process. Ultimately, which AI will take off is dependent on which modal of communication consumers prefer.

Recently, GOOG has announced its plans to launch Duet AI, AI to help augment the experience on both cloud and Search. It’s definitely a step forward in the right direction, Duet AI could be complementary to Google’s already dominant search as not every search will likely be using AI due to how long that would take.

Others

%Rev, With so many components in Others, there may be less focus placed on this segment of the business so it’ll take a smaller pie of GOOG’s revenue.

Y/Y, I opted to use historical average as granularity seems to be inaccurate here.

COST:

TAC

Given the competitiveness of Competing technology against GOOG’s main Traffic generator, I’d argue that it could be significantly costlier to acquire traffic overtime. Recently I've been reading Homo Deus which made a fair point about Dataism. As our data interpreter (AI) gets more and more accurate, you'd be at a disadvantage to not use AI in your day to day life. So if we have this paradigm shift of trusting and relying on AI, TAC has a huge potential of decreasing. But, given how little regulation and promising technology on AI there has been so far this may be either too far out into the future or just impossible entirely.

COST OF REVENUES

GOOG has lumped Content Review, Content Acquisition and Data Centre together in COST OF REVENUES.

1. Content Review: Needing Employees to manually sieve through content for compliance. As the service gets more popular, more content means needing more employees. (Variable Cost) BUT I'd argue that it could be a negligible one overtime as AI gains dominance and can track content in place of humans. (Fixed Cost)

2. Content Acquisition: GOOG has stated it uses a cost price model for determining the amount of content acquired. (Variable Cost)

3. Data Centre: Fixed infrastructure in place, but more of Data center used means GOOG needs higher bandwidth which means higher cost (Variable Cost)

Since these are variable costs, I’d argue the extent that GOOG can reduce these costs to improve margins are limited.

R&D

R&D the cornerstone of GOOG’s business philosophy will always retain a fixed % of revenue. As evident from historic data where the spread of R&D with respect to Revenue was rather small.

So, R&D maintains a fixed % with respect to revenue. But eventually when GOOG matures, I’d argue that R&D tends downwards.

Sales & Marketing + G&A

Sales & Marketing + G&A also followed the same historic patterns of R&D where they always occupied the same % with respect to revenue with a small spread.

So, Sales & Marketing + G&A occupies a fixed % with respect to revenue. But eventually when GOOG matures and develops a strong branding relies less on marketing so it tends downwards a little.

COST OF CAPITAL:

WACC calculation a little too messy to input here so I'll link it
WACC: (SOURCE)

CONCLUSION:

GOOG is priced at $146.02, GOOG’s recent innovations have been made only in response to competitors. It’s more reactive rather than proactive which may be a bad thing given how strongly ChatGPT has since established its dominance over GOOG. For GOOG to improve its valuation it needs to peer deeper into the AI realm and look towards augmenting AI to compliment its advertising segment e.g. Using AI to help advertisers or to manage Ad Inventory.

DCF: (SOURCE)
REVENUE MODEL: (SOURCE)
COST MODEL: (SOURCE)