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Understanding Google's Alphabet structure (think, alpha bet)

Steven Max Patterson | Aug. 14, 2015
The search giant’s new Alphabet corporate structure may appeal to many more types of investors. And the overhaul may be a natural way to sort financial backers based on risk versus reward.

google alphabet

Splitting the name of Google's new holding company Alphabet into two "alpha" and "bet" may help explain the new business structure that JP Morgan analyst Doug Anmuth called "an elegant way for Google to continue to pursue long-term, life-changing initiatives while simultaneously increasing transparency and management focus in the core business" in a recent report.  

Alpha is "investment return above benchmark," noted Larry Page in the company's announcement of the new name and structure on its new website, abc.xyz. The word "bet" could refer to all the long-term bets Google has made in a spectrum of big ideas some would call them moonshots including driverless cars, life sciences, home automation and robots.

The new company's core (alpha) businesses such as search, maps and YouTube will still be called Google. Sundar Pichai, who was promoted to CEO as part of the announcement, will report the results of Google's operations separately beginning in Q4 2015. The moonshots, the "bets," will also be reported separately.

As Alphabet CEO Larry Page mentioned in his blog post about the restructuring, Google has a track record of successfully launching products that are now used by billions of people (YouTube, Google Maps, Android, etc.). Alphabet looks like a new innovation management and finance model, a formal approach to incubating businesses into large-scale operations. 

Separation anxiety?

You can imagine that Page and cofounder Sergey Brin are passionate about the many moonshots incubating under the old Google corporate structure. But large cap investors might find them an unprofitable distraction from the core revenue and profit-producing business in which they invested. Fund managers with perspectives narrowed by the necessity of quarterly earnings expectations can't model and place a value on projects like the autonomous car. Those kinds of moonshots could require large loss-making investments during a five year or longer horizon to bring to market and become accretive to Alphabet's earnings.

Pleasing large cap investors with Alpha investment results and betting on new businesses to find the next big growth area do not coexist comfortably with one another. According to Page, the price of comfort is reducing growth expectations to incremental change. Emphasizing the dilemma, Page said "in the technology industry, where revolutionary ideas drive the next big growth areas, you need to be a bit uncomfortable to stay relevant."

Stanford economics professor Nicholas A. Bloom explains how Alphabet will make investors comfortable: "There are two benefits of the new structure. One is visibility, in that with the split it makes it easier to model the main search business from the distracting moonshots. The second benefit is it contains the moonshots, because as separate businesses it is much harder to fund them under the radar. Fund managers were nervous about Google tunneling cash from the search business to other long-shot ventures unchecked, and with the Alphabet model they cannot do this. Google has put constraints on how much its founders Page and Brin can fund moonshots, and the market not surprisingly likes this."

 

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