• Alphabet, the parent   company of Google, reported Q4 results earlier this week, with revenues and   earnings both ahead of analyst expectations. Alphabet’s Q4 results reflected   a sharp recovery in advertising spend, especially YouTube advertising, and   ongoing robust growth in the developing Google Cloud business.

  • Alphabet’s revenue grew 23% on an annualized basis in the quarter to   $56.9 billion which was ahead of expectations of $53 billion. Advertising   revenue for the fourth quarter was reported at $46.2 billion, up 22% from   $37.9 billion in the same quarter last year. YouTube ads, which brought in   $6.89 billion in quarter 4, showed a 46% year on year increase. Alphabets   nascent cloud business, Google Cloud, reported a 47% increase in revenue to   $3.8 billion although the division reported an operating loss of $1.2 billion   following a similar loss in Q4 2019. Overall, Alphabet reported an operating   profit of $15.7 billion compared to $9.3 billion in the corresponding quarter   in 2019. The company’s operating margin improved by 800bps to 28%. Diluted   EPS for the quarter was reported at $22.30 up 45% year on year.

  • Alphabet also reported robust free cash flow of $17.2 billion in Q4   compared to $8.4 billion in Q4 2019. Free cash flow for the year totalled   $42.8 billion up from $31 billion in 2019 and $7 billion a decade ago. Cash   and cash equivalents stood at $137 billion at the end of December.

  • Of some concern is the company’s return on capital employed which   has been on a decline over the last several years. We attribute this decline   to the ongoing heavy investment towards Google Cloud which at this stage   continues to be loss making. Even despite the decline in returns, Alphabet   still generated a return on capital employed of close to 20% which in our   view is more than acceptable. In addition, given the rapid growth in revenues   from the cloud division we remain confident that Google Cloud will begin   generating profits in the next several years which in turn should see a   recovery in returns on capital.

  • Alphabet currently trades at an enterprise to free cash flow multiple of 30x or a free cash flow yield of 3.3x. This in our view is not overly excessive especially given the company’s growth prospects as well as the current prevailing low global interest rate environment. As such Alphabet remains a core holding in both Cratos Global portfolios as well as the Cratos BCI Worldwide Flexible Fund.