How Much Are Google Inc's Moonshots Costing Shareholders?

Source: Google

At the risk of making a huge understatement, it's been a big week for search giant Google (GOOG 1.25%) (GOOGL 1.27%).

Seeing the press release for the first time, I wondered if this were some kind of prank on Google's part. Nope, it was no joke: Google meant business with its announcement on Monday that it would rework its corporate structure to allow for greater transparency as the company evolves beyond its core search and services that drive its performance today.

Predictably, the news sparked a flurry of commentary from analysts, and by at least one research firm's reckoning, Google or Alphabet investors might be in for a rude awakening regarding the true costs associated with Google's moonshot initiatives.

Spend money to make money
It should come as no surprise, but Google's sprawling investment projects are the equivalent of a financial sinkhole at the moment. Recently, Morgan Stanley's well-respected research team produced a set of estimates detailing exactly how much Google's ambitious investments have cost its shareholders.

Source: Morgan Stanley estimates via Tech Trader Daily 

Obviously, this illustrates the fact that Google can and will spend freely on areas where it perceives significant future market opportunities. But this data set also fails to connect these significant costs to the broader context of Google's massive sales and profit base, as you can see here:

Source: author's calculation, Google IR, and Morgan Stanley estimates Spreadsheet 

While the investment community tends to cite declining CPCs as the primary drag on Google's performance -- myself included -- viewed this way, the search giant's next-gen investments clearly create by far the greatest negative headwind to its current financial performance.

Google claims it puts rigorous analysis and disciplined time caps on its moonshot projects, approaching them as the company would any other investment decision. Of course, by any normal business standard, a company operating a division that collectively siphons away between $8 billion and $9 billion from shareholders on a recurring basis faces serious problems. But in framing their thinking about Google's now better understood financial drags, investors must consider a few critical points as well.

High risk, high reward 
From a risk-reward standpoint, should even one of Google's more meaningful moonshots realize its promise, the returns generated will likely more than compensate for any losses incurred by Google's futuristic efforts. As just one example, consulting firm Deloitte estimates that the entire biotech industry generated $288.7 billion in revenues in calendar year 2014, a number that should rise alongside aging populations in many large economies. This is a massive opportunity for Google's various healthcare initiatives should any of its bets in this sector prove as category defining as management's occasional commentary suggests.  

More importantly for investors to realize, Google's lavish spending on future investments could accelerate with its founders' increased attention, and retail and individual shareholders will have effectively zero say in the matter. Recall, Google instituted a three-class share structure in 2012 that gave CEO Larry Page, co-founder Sergey Brin, and executive chairman Eric Schmidt around two-thirds of Google's/Alphabet's total voting power via their supercharged voting B-shares. So, for better or worse, investors looking to benefit from the search giant's hugely profitable core offerings also expose themselves to the shifting ambitions of its founding team.

That being said, Google's leaders have produced world-changing impact and compelling returns in their first act at Google. So, while the spending appears set to increase regardless of minority shareholders' opinions, Google's visionary track record also bodes well for its chances that one or more of its many moonshots will produce another breakthrough product as we enter the Alphabet era.