Key Takeaways
- A sum of the parts valuation suggests Alphabet’s market capitalisation may not fully reflect the distinct value of its core segments: Search, YouTube, and Google Cloud.
- Google Cloud has achieved sustained profitability, reporting a $900 million operating income in Q1 2024, fundamentally altering its valuation profile from a cost centre to a growth engine.
- Beyond the main revenue drivers, Alphabet’s portfolio contains significant, if difficult to quantify, value in its AI division (DeepMind) and ‘Other Bets’ like Waymo, which can be viewed as embedded call options on future technologies.
- While the valuation case is compelling, investors must weigh it against material risks, including global regulatory pressures on its advertising business and intense competition in the cloud and AI sectors.
A simple sum of the parts analysis for Alphabet Inc. often reveals a valuation gap, a theme periodically revisited by market commentators, including the analyst Shay Boloor. This framework suggests the conglomerate structure masks the standalone strength of its primary business units. By disaggregating the key segments, we can build a more granular picture of Alphabet’s intrinsic value and assess whether its current market price reflects the full scope of its operations, particularly considering the recent and crucial pivot to profitability within its cloud division.
Deconstructing the Alphabet Portfolio
Applying a standard sum of the parts (SOTP) model requires assigning individual valuations to each of Alphabet’s core revenue streams. Using the most recent financial disclosures provides a contemporary basis for this exercise. While multiples are inherently subjective, we can ground them in industry comparisons to derive a logical, if approximate, valuation for the enterprise.
Based on the first quarter of 2024, the annualised revenue run rates for its major segments provide a foundation for this analysis. Google Search continues to be the formidable cash generator, while YouTube maintains its position as a cultural and advertising heavyweight. The most significant development, however, is Google Cloud’s emergence as a profitable, high growth business.
| Segment | Q1 2024 Revenue | Annualised Run Rate | Illustrative Multiple | Implied Valuation |
|---|---|---|---|---|
| Google Search & other | $46.16 billion | ~$185 billion | 4.5x Revenue | $832.5 billion |
| YouTube ads | $8.09 billion | ~$32 billion | 6.0x Revenue | $192.0 billion |
| Google Cloud | $9.57 billion | ~$38 billion | 10.0x Revenue | $380.0 billion |
| Subtotal | $1.404 trillion |
This simplified model totals over $1.4 trillion before even considering Alphabet’s considerable cash reserves or the value of its ‘Other Bets’ portfolio. Given Alphabet’s market capitalisation has been fluctuating around the $2.2 trillion mark, this suggests the market ascribes roughly $800 billion in value to everything else: cash, hardware, subscriptions, and its portfolio of moonshot projects.
The Cloud Profitability Inflection Point
For years, Google Cloud was perceived as a distant third in the cloud infrastructure race, a capital intensive division that weighed on Alphabet’s otherwise stellar margins. That narrative has now definitively shifted. In Q1 2024, the segment reported operating income of $900 million, up from $191 million in the same quarter of the previous year.¹ This is not an anomaly but the confirmation of a trend towards sustainable profitability. The ability to generate profit while still growing revenue at over 28% year on year justifies a more robust valuation multiple. While a 10x multiple is more conservative than some high growth software as a service peers, it acknowledges the intense competition from Microsoft Azure and Amazon Web Services.
The Embedded Call Option on Artificial Intelligence
The most difficult component to value, and arguably the most compelling, is Alphabet’s AI apparatus. DeepMind is not merely a research entity but the central nervous system for innovation across the entire company. Its advancements in large language models with Gemini are being integrated into Search, Workspace, and Cloud, creating new revenue opportunities and defensive moats. Attaching a precise figure to this is an exercise in speculation, but its strategic importance is undeniable. It represents a significant, embedded call option on the future of technology. If AI integration can accelerate growth or protect margins in the core Search business, its effective value is enormous. This, combined with ‘Other Bets’ like the autonomous driving firm Waymo, represents a pool of latent potential that a simple SOTP analysis struggles to capture.
Risks and Forward Outlook
Of course, the investment case is not without its caveats. Alphabet faces persistent regulatory scrutiny globally, particularly concerning its dominance in digital advertising. The European Union’s Digital Markets Act and ongoing antitrust litigation in the United States represent tangible threats to its business model. Furthermore, competition in AI is fierce, and the massive capital expenditure required to stay at the forefront of model development could pressure margins, even as Cloud operations scale profitably.
Nevertheless, the argument that Alphabet is misunderstood by the market holds some weight. The conglomerate structure which has served it so well may now be obscuring the underlying value of its component parts. A speculative hypothesis is that as Google Cloud’s profitability becomes a consistent feature of earnings reports and AI monetisation strategies become clearer, the market will be forced to re-evaluate. The catalyst for a re-rating may not be a single event, but a gradual realisation that the company is more than just a search engine; it is a diversified technology powerhouse with multiple, distinct growth engines firing at once.
References
¹ Alphabet. (2024, April 25). Alphabet Announces First Quarter 2024 Results. Retrieved from https://abc.xyz/investor/static/pdf/20240425_alphabet_q1_2024_earnings_release.pdf
Boloor, S. [@StockSavvyShay]. (2024, August 28). WHY $GOOGL IS MISPRICED • Search still generates a $200B run rate — even under pressure, a 4x legacy multiple = ~$800B • Cloud is now at a ~$50B run rate — apply a 12x multiple = ~$600B • YouTube Ads at ~$40B — 5x industry comp = ~$200B • DeepMind owns the full AI stack… [Post]. Retrieved from https://x.com/StockSavvyShay/status/1821198138037334312
The Motley Fool. (2024, June 1). Prediction: This “Magnificent Seven” AI Stock Will Be the Next Great Value Play. Retrieved from https://www.fool.com/investing/2024/06/01/prediction-this-ai-stock-next-great-value-play/
Yahoo Finance. (2024). Alphabet Inc. (GOOG) Stock Price, News, Quote & History. Retrieved from https://finance.yahoo.com/quote/GOOG/
