Alphabet's (GOOG +0.01%) (GOOGL 0.09%) Google recently partnered with Ericsson (ERIC 1.26%) to develop new 5G and edge cloud solutions for telecom companies and enterprise customers.
Google already provides cloud services to Ericsson, one of the world's top telecommunications equipment providers, but the new partnership will expand that relationship with the co-development of new services at Ericsson's D-15 Labs in Silicon Valley, as well as a pilot program for edge enterprise applications with Telecom Italia.
These projects could help Google and Ericsson keep pace with their bigger rivals in their respective markets. Google ranks third in the cloud infrastructure market after Amazon (AMZN 0.11%) and Microsoft (MSFT 3.97%), according to Canalys, while Ericsson and Nokia (NOK +4.77%) are roughly tied for second place in the telecom equipment market behind Huawei, according to Dell'Oro Group.
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How this deal benefits both companies
Strengthening the bonds between Google Cloud's compute platform and Ericsson's expanding 5G network makes strategic sense. As 5G networks deliver more data at faster speeds, telecom companies and enterprise customers will require more cloud computing power to process that information.
That marriage will make edge computing devices, such as Internet of Things (IoT) gadgets that rest on the "edges" of existing networks, more useful. They'll also help edge computing services, such as content delivery networks that deliver online media from proxy servers, operate more efficiently.
Google Cloud CEO Thomas Kurian says organizations have a "tremendous opportunity to digitally transform their businesses with 5G and cloud capabilities like artificial intelligence and machine learning at the edge."
Ericsson's North American chief Niklas Heuveldop notes that "when combined with edge cloud capabilities, 5G has the potential to accelerate the digital transformation of virtually any sector of industry or society."
But let's not overstate the deal's impact
This alliance sounds promising, but investors should note it's merely an expansion of an existing partnership. It also isn't an exclusive one: Google is also working with Nokia to merge cloud and 5G services, while Ericsson has signed other partnerships with Amazon Web Services (AWS) and Azure.
That isn't surprising, since it would be foolish for Ericsson and Nokia to exclusively work with one cloud provider, and for the cloud giants to exclusively work with one telecom equipment provider.
Will this partnership help either company?
Google Cloud's revenue increased 53% to $8.9 billion in 2019, then rose 6% to $13.1 billion -- or 7% of Alphabet's top line -- in 2020. That robust growth offset the slowdown in Google's advertising business during the pandemic. But Google Cloud is still unprofitable. Its operating loss widened from $4.3 billion in 2018 to $4.6 billion in 2019, then widened again to $5.6 billion in 2020.
Google Cloud only controlled 7% of the global cloud infrastructure market in the first quarter of 2021, according to Canalys, compared to 32% for AWS and 19% for Azure. Therefore, Google Cloud is gaining big enterprise customers like Ericsson and Apple, but it still might not have much pricing power yet -- so it could remain a dead weight on Alphabet's total profits.
Yet Alphabet can't afford to lose the cloud computing race to Amazon and Microsoft. Tethering more organizations to its cloud ecosystem -- even at a loss -- supports the future growth of its ecosystem beyond the ads that generated 80% of Alphabet's revenue last year.
As for Ericsson, the Swedish company has been performing better than Finnish rival Nokia. Between 2019 and 2020, Ericsson's global market share in telecom equipment rose from 14% to 15%, according to Dell'Oro Group. Nokia's share dipped from 16% to 15% as it grappled with 5G setbacks, troubles in China, a dividend suspension, and its CEO's abrupt resignation.
Ericsson's 5G expansion went more smoothly, it faced fewer challenges in China, it kept paying its dividend, and it didn't change CEOs. Ericsson's 5G network has secured 143 commercial agreements to date, and analysts expect its revenue and earnings to increase 11% and 19%, respectively, this year. They expect Nokia's revenue to rise just 4%, with flat earnings growth.
Benefiting from two secular growth trends
Google and Ericsson's latest partnership won't move the needle for either company right away, but it pins their businesses more firmly to the secular growth of the 5G and edge computing markets.
Grand View Research expects the global 5G services market to grow at a whopping compound annual growth rate (CAGR) of 43.9% between 2021 and 2027, while ReportLinker estimates the global edge computing market could grow at a CAGR of 29.4% between 2020 and 2026.
Google, Ericsson, and their industry peers should all benefit from these trends, and tighter bonds between their 5G and cloud technologies could help all these companies grow over the next few years.
