It's been about four and half years since Apple (AAPL 0.20%) bumped oil behemoth ExxonMobil from its perch as the world's largest company. At the time, Apple was valued at a cool $337.2 billion and had already left its tech brethren in the dust. Thanks to the rapid decline in oil prices, Exxon is smaller today than it was back in August 2011, while Apple has grown to become a $519 billion industry leader.
After shedding nearly 12% of its market value year to date, Apple is no longer untouchable as the world's most valuable company. Apple is expected to have a relatively rough 2016, according to many industry pundits. Alphabet (GOOG -0.19%) (GOOGL -0.21%), on the other hand, is already closing the valuation gap with Apple and appears poised for yet another year of growth.
A two-horse race
Reporting fiscal 2016 Q1 record revenue of $75.9 billion and net income of $18.4 billion -- also a record -- would seem to be enough to get Apple's calendar year off to a roaring start. However, the future doesn't look as bright as the recent past.
The concern for Apple is one that many of us have lamented for some time: putting all its revenue and profit eggs into one basket, by way of the sale of high-end iPhones. Last quarter was indicative of the past several years. Of Apple's record revenue in fiscal Q1, over two-thirds of it came from iPhone sales.
That's all well and good when big-ticket smartphone sales are climbing. But for the first time in nine years, Apple said iPhone sales will drop later this year. That's not surprising, given the saturation of the smartphone market, coupled with Apple's reluctance to offer a lower-cost iPhone to address one of the few growth areas -- emerging markets.
Apple's guidance for the current quarter of $50 billion to $53 billion also disappointed. If Apple's revenue expectations come to pass, it will be the first sales drop since 2007. Lower revenue and a decline in iPhone sales, combined with what's expected to be a year of digital advertising market growth, is why Alphabet will threaten Apple's reign as the world's most valuable company in 2016.
Why this will be the year
No matter which estimate investors choose to believe, the consensus is that 2016 will see a continued jump in online ad sales. For the first time ever, digital ad spend is expected to outpace TV as the medium of choice for marketers. And there's no company better positioned to benefit from an increase in digital spend than $487 billion Alphabet.
Of Alphabet's $18.68 billion in sales last quarter, $16.78 billion was derived from online ads. Alphabet naysayers may point to a recent report from eMarketer that suggests that in the U.S. -- the world's top digital advertising market -- 2016 will be the year that display ads supplant spending on search, Alphabet's bread and butter.
Search plays an integral role in driving Alphabet revenue. But continuing to boost the number of paid clicks, as Alphabet did again last quarter by 23%, should offset much of the pressure put on search-related ads, particularly mobile, which generates less revenue per spot. Alphabet also has its YouTube property that's ideally positioned to take advantage of marketers' growing love of high-cost video ads.
YouTube is the undisputed leader of online viewing, boasting more than a billion users worldwide. More importantly for investors, Alphabet's marketing partners are posting YouTube spots in droves. In October, Alphabet's top 500 U.S. advertisers posted 7,500 videos on YouTube. Facebook was the second choice for video spots, but it garnered less than half the video posts as YouTube.
Apple will face challenges in 2016 that it's not had to contend with for the past decade or so. At the same time, Alphabet is poised to seize even more of the fast-growing digital ad market. The stars are aligning for Alphabet to take its place as the world's largest company in 2016. Maybe the new Watch and TV will keep Apple in the running, but it's Alphabet's race to win.