Alphabet (GOOGL 2.37%) (GOOG 2.15%) recently became the fourth company to achieve a $1 trillion market cap. It reached this milestone less than 22 years after its founding by dominating the internet in search and branching off into videos, smartphone operating systems, cloud products, and numerous other offerings. Considering all of the applications invented by the company, it may have created one of the more successful research and development outfits in corporate history.
However, its prosperity may have also hindered some of its success. Alphabet's corporate structure may have left some divisions unable to realize their full value. By spinning off divisions, or allowing a breakup to occur, Alphabet could add tremendous value to its shareholders.
Who is Alphabet?
The company remains best known for its original product, the search engine. However, Android, YouTube, as well as numerous ventures into other businesses also shape the company. Still, Google Sites, which includes the ad platform that has long driven most of the company's revenue, accounted for more than 70% of Alphabet's revenue as of the last quarter.
Alphabet has also built a reputation as an innovator. Their success in this area led Boston Consulting Group to rank Alphabet as the most innovative company in 2019, taking the title from Apple.
Today, Alphabet consists of dozens of subsidiaries. This includes life science companies such as Calico and Verily. Google Fiber, autonomous car company Waymo, and tech incubator Jigsaw are also among the list of companies under the Alphabet umbrella.
This diversification has helped the conglomerate in one key area. As Facebook and Amazon claim increasing shares of ad revenue, the company's focus has shifted away from ads. Consequently, much of the emphasis lies in what the company classifies as "other" revenue. This includes Google Cloud, as well as Google Play. This division grew 39% year over year in the last quarter to $6.4 billion, around 15.9% of the company's revenue.
As mentioned before, Alphabet began by building its innovative Google search engine. This quickly became the most popular website for searches, and today, it still maintains more than 92.7% of the world's search engine market. Android holds a worldwide market share of about 85% of the smartphone OS market, while YouTube boasts more than 2 billion monthly active users
In the U.S., the Department of Justice (DOJ) has looked into the company due to its dominance of search, and its data collection supplemented by YouTube and Android have created an allegedly anti-competitive market in this space. More recently, the DOJ has also raised concerns about Alphabet's proposed takeover of Fitbit.
A number of state attorneys general have filed suit, and EU regulators have also investigated the company. The EU has fined the company a total of $9.4 billion over the last three years due to anti-competitive practices.
The case for unlocking value
Alphabet's legal team continues to fight these charges and any attempt to break up the company. For now, investors do not seem concerned. Alphabet stock has steadily risen since the DOJ first announced its probe. It continues to maintain a market cap just above $1 trillion.
Still, despite the recent surge in Alphabet stock, fighting a breakup may not be in the best interest of shareholders. Given the history of breakups, one has to question whether investors should root for the company to stay together. Two prominent breakups, Standard Oil and the original AT&T led to the sum of the parts becoming much larger than the whole.
That could become the case with Alphabet as well. Morgan Stanley values Waymo at about $105 billion, slightly more than 10% of Alphabet's current market cap. And that is just one of many divisions. The company's balance sheet does not appear to reflect this value well. As of the last quarter, Alphabet reported a total of $19.8 billion in intangible assets.
This is not to say that Alphabet should sell every division. Even spinning off a noncore division such as Waymo could bring other challenges. Alphabet faces competition from Nvidia, Intel, and others in the self-driving car market. Without Alphabet as a benefactor, it would lose not only a key funding source, but possibly a competitive edge.
Still, as mentioned earlier, the company needs revenue sources not tied to ads. With Google Cloud and Google Play fulfilling that duty, they do not need all of their current subsidiaries to bolster growth.
Also, the company's cash hoard could play a critical role in unlocking some of its value. Alphabet held about $121 billion in cash as of the end of the last quarter. This makes Alphabet the world's largest company to not pay a dividend. Offering a cash payout could open Alphabet to a new group of income investors, thus sending the stock price higher.
Alphabet has achieved unprecedented success in developing compelling applications across numerous industries. These will continue to drive significant growth for years to come. However, by spinning off some of this value, more of that growth can accrue to holders of Alphabet stock.