Mad Hedge Technology Alerts!
Google (GOOGL) makes bucket loads of money and even makes Facebook's (FB) business model look dwarfish.
Total revenue in 2017 came in at more than $110 billion, up 23% YOY and almost three times larger than Facebook's annual revenue of $40.65 billion in 2017.
It's easy to comprehend why the big keep getting bigger if you understand the basic trajectory of technology companies.
A new report from the search consulting firm Adthena chronicled the flow of ad dollars into digital e-commerce and found that retailers are spending 76.4% of total ad budget on Google shopping ads.
Last year was a record-breaking year for total digital ad revenue, and this year the industry is slated to grow another 20%.
Young people aren't watching television as they used to and are more comfortable using computers, tablets, and smartphones to gorge on their entertainment and work.
By 2020, digital ads will comprise 44.6% of total ad revenue as cord-cutting by consumers accelerates and broadband streaming becomes the norm across all of America and the world.
Mobile is the triumphant victor here as the majority of dollars will migrate to smartphone platforms.
China and America will overwhelmingly make up the bulk of digital ad spend, and Europe will remain a distant third.
Last quarter, Alphabet missed Wall Street expectations on the bottom line failing to reach earnings per share (EPS) targets of $9.98. The $9.70 miss wasn't a total failure but disappointing enough for Alphabet shares to nosedive.
Alphabet has positioned itself perfectly for the future and has many irons in the fire.
Google's ad business remains its go-to segment totaling $27.27 billion in revenue in Q4, a main driver of outperformance.
Cost per click (CPC) decreased slightly less than what analysts expected, but that was the trigger for a quick dip in share prices even though Alphabet beat on the top line.
In total, it is immaterial if Alphabet misses slightly on this metric. And, coincidentally, Alphabet is changing the way it calculates ad fees by switching over to cost per impression (CPI), which charges advertisers for raw viewing of an ad.
This pricing mechanism will create higher margins that slightly suffered last quarter because advertisers now are charged for users not clicking an ad as well.
(CPC) has been eroding for years. Alphabet attributes the slight dip to the widespread migration to mobile and the importance of YouTube ads, which yield lower rates than desktop ads.
Alphabet's "other revenues" segment, including its burgeoning enterprise business, hardware sales, and app store Google Play, posted $4.69 billion in revenue, bringing total Google revenue to $31.91 billion in Q4 2017.
Google search, the premier legacy business in tech, still comprises 85% of total revenue. Crucially, the cash mountain procured aids in capital allocation. Alphabet heavily reinvests back into different parts of the business or M&A.
Certainly, it has laid some eggs such as the Google glasses and its attempt at social media through Google+, which flamed out, too.
Many of these new projects originate from the 20% of work time that is allocated to free-spirited entrepreneurship. This initiative has harvested benefits spawning from Google news and other supplementary projects.
Alphabet's innovative qualities feedback into their core product as well, but management understands it needs to evolve to meet the capricious needs of users.
Google founders Sergey Brin and Larry Page thirst for a fresh injection of vivacity into their business and added several outside valuable pieces that include YouTube, Motorola, and Nest Labs for around $17 billion.
These growth engines will fit nicely under the umbrella of firms that Google has collated.
The cloud segment has become a "billion dollar per quarter business." It is dwarfed by the ad revenue but is still the glue that holds the firm together because of the heavy reliance of big data storage to power its firm.
The cloud is still a small sliver of the business and trails Amazon (AMZN), and Microsoft's (MSFT) cloud businesses, but Google drive cloud platform was "the fastest growing major public cloud provider" in 2017.
Apple (AAPL) has even subcontracted Google to store iPhone data on its Google cloud. I bet you didn't know that.
The cloud will continue to gain momentum for Google. Developing the best search engine in the world makes the company specialists in harvesting data because refining a search engine takes an extraordinary amount of data to fine-tune the user searches to perfection.
There are a few headwinds Alphabet is coping with, predominantly traffic-acquisition costs (TAC) as a percentage of revenue will continue to rise, but the increase in velocity will taper off by mid-2018.
Google's total (TAC), which includes funds it pays to phone manufacturers such as Apple that integrates its services, such as search, hit $6.45 billion, or 24% of Google's advertising revenues.
The rising cost of finding eyeballs will squeeze margins.
Another bogey on the horizon is Amazon's foray into the digital ad sphere. It possesses the quality of data to claw away market share and could damage the comprehensive duopoly that Alphabet enjoys with Facebook.
Large cap tech is competing with each other in almost every critical industry guided by the invisible hand of a massive treasure trove of big data. This is unavoidable.
Alphabet's other gambles such as smart-home hardware maker Nest Labs and health-care company Verily are bets on the future as all big tech firms position themselves to compete in a myriad of emerging industries.
These products aren't expected to harvest profits for years and lost Alphabet a combined $500 million last year.
There are a few companies that are perfectly aligned with the direction of future business and technological development, and Alphabet is one of them.
Whether the autonomous vehicle subsidiary Waymo or its smart-home investment in Nest Labs, Alphabet is diversified into most of the cutting-edge trends moving forward.
If the sushi hits the fan with its up-and-coming segments, Alphabet can always fall back on what it knows best - selling ads.
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Quote of the Day
"We want Google to be the third half of your brain." - said co-founder of Google and president of Alphabet, Sergey Brin.
Mad Hedge Technology Letter
April 4, 2018
Fiat Lux
Featured Trade:
(SPOTIFY KILLS IT ON LISTING DAY),
(SPOT), (DBX), (GOOGL), (AAPL), (AMZN), (CRM), (NFLX), (FB)
The banner year for the cloud continues as Dropbox's (DBX) blowout IPO passed with flying colors.
Investors' voracity for anything connecting to big data continues unabated.
Big data shares are now fetching a big premium, and recent negative news has highlighted how important big data is to every business.
Let's face it, Spotify (SPOT) needs capital to reinvest into its platform to achieve the type of scale that deems margins healthy enough to profit, even though it says it doesn't.
Big data architecture takes time to cultivate, but more importantly it costs a huge chunk of money to construct a platform worthy enough to satisfy consumers.
The daunting proposition of competing with the FANGs for users only makes sense if there is a reservoir of funds to accompany the fight.
Spotify CEO Daniel Ek has milked the private market for funding, making himself a multibillionaire in the process. And as another avenue of capital raising, he might as well go to the public to fund the venture in the future.
Cloud and big data companies have identified the insatiable investor appetite for their services. Crystalizing this sentiment is Salesforce's (CRM) recent purchase of MuleSoft - integration software that connects apps, data, and devices - for 18% more than its original offer for $6.5 billion.
The price was so exorbitant, analysts speculated that a price war broke out, but Salesforce paid such a high price because it is convinced that MuleSoft will triple in size by 2021. That is another great trading opportunity missed by you and me.
An 18% premium to the original price will seem like peanuts in five years. The year 2018 is unequivocally a sellers' market from the chips up to the end product and everything in between on the supply chain.
Spotify cannot make money if it's not scaled to 150 million users, compared to its current 76 million. And 200 million and 300 million would give CEO Daniel Ek peace of mind, but it's a hard slog.
Pouring gas on the fire, Spotify is going public at the worst possible time as tech stocks have been the recipient of a regulatory witch hunt pounding the NASDAQ, sending it firmly into correction territory.
Next up was Spotify's day to shine in the sun directly listing its stock.
Existing investors and Spotify employees are free to unload shares all they want, or load up on the first day. In addition, no new shares are being issued. This is unprecedented in the history of new NYSE listings.
Spotify is betting on its brand recognition and massive desire for big data accumulation. It worked big time, with a first day's closing price of $149, verses initial low ball estimates of $49.
Cloud companies are the cream of the big data crop, but Spotify's data hoard will contain every miniscule music preference and detail a human can possibly exhibit for potentially 100 million-plus people.
Spotify's data will become the most valuable music data in the world and for that it is worth paying.
But at what price?
Spotify has no investment bankers, and circumnavigating the hair-raising fees a bank would earn is a bold statement for the entire tech industry.
Sidestepping the traditional process has ruffled some feathers in the financial industry.
The mere fact that Spotify has the gall to execute a direct listing is just the precursor to big banks being phased out of the profitable investment banking sector.
Goldman Sachs (GS) was the lead advisor on Dropbox's (DBX) traditional IPO, and it was a resounding success rocketing 40% a few days after going public.
IPOs are not cheap.
The numbers are a tad misleading because Spotify paid about $40 million in advisory to the big investment banks leading up to the big day.
This is about a $28 million less than when Snapchat (SNAP) went public last year.
Uber and Lyft almost certainly would consider this option if Spotify nails its IPO day.
Banks are being squeezed from all sides as nimble, unregulated tech firms have proved better adaptable in this quickly changing environment.
Spotify's business model is based on spectacular future growth, which may occur.
It is a loss-making company that produces no proprietary solutions but is overlooked for its valuable data.
The company is the market leader in paid subscribers at 76 million, far outpacing Apple Music at 39 million and Pandora at 5.5 million.
Total MAUs (Monthly Active Users) expect to reach more than 200 million users, and paid subscribers could hit the 96 million mark by the end of 2018.
Spotify's business model bets on transforming the free subscribers who use Spotify with ad-supported interfaces into paid subscribers that are ad-free. Converting a small amount would be highly positive.
Gross margin is a number that sheds light on the real efficiencies of the company, and Spotify hopes to hit the 25% gross margin point by the end of 2018.
I am highly skeptical that gross margins can rise that high unless they solve the music royalty problem.
Royalty costs are killer, forcing Spotify to shell out a massive $9.75 billion in music royalties since its inception in 2006.
Spotify is paying too much for its content, but that is the cruel nature of the music industry.
The ideal solution would eventually amount to producing high quality original entertainment content on its proprietary platform akin to Netflix's (NFLX) business model with video content.
Spotify's capital is being drained by royalty fees amounting to 79% of its revenue.
This needs to be stopped. It's a losing strategy.
Considering Google (GOOGL) and Facebook (FB) do not pay for their own content, it frees up capital to pile into the pure technical side of the operations, enhancing their ad platforms luring in new users.
This is why the Mad Hedge Technology Letter sent you an urgent Trade Alert to buy Google yesterday when it was trading at $1,000.
All told, Spotify has managed to lose $2.9 billion since it was created 12 years ago - enough capital to create a new FANG in its own right.
Dropbox was an outstanding success and attaching itself to the parabolic cloud industry is ingenious.
However, potential insane volatility should temper investors' expectations for the first day of trading.
The lack of a road show, no lockup period, and no underwriting or book building will sacrifice stability in the short term.
There is incontestably a place for Spotify, and the expected 30% to 36% growth in 2018 looks attractive.
But then again, I would rather jump into sturdier names such as Lam Research (LRCX), Nvidia (NVDA), and Amazon (AMZN) once markets quiet down.
The private deals that took place before the IPO changed hands were in the range of $99 to $150. Considering the reference point will be set at $132, nabbing Spotify under $100 would be a great deal.
The market will determine the opening price by analyzing the buy and sell orders for the day with the help of Citadel Securities.
It's a risky proposition that 91% of shares are tradable upon the open. Theoretically, all these shares could be sold immediately after the open.
Legging into limit orders below $140 is the only prudent strategy for this gutsy IPO, but better to sit and observe.
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Quote of the Day
"One of the only ways to get out of a tight box is to invent your way out." - Amazon CEO Jeff Bezos
