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Krause Fund Research Spring 2018

Technology

Recommendation: Buy

Analysts Brian Cook brian-s-cook@uiowa.edu

Garrett Kula garrett-kula@uiowa.edu

Carson McGill carson-mcgill@uiowa.edu

Company Overview

Alphabet is a leading company in the technology sector, it is one of the “Big 5” companies. A large majority of Alphabet’s revenue comes from the advertising revenue from Google. Alphabet also invests large amounts of money in developing new technologies, such as The Cloud, that generates “Other Bets” revenue. Alphabet is currently the 3rd largest company in the world in terms of total market capitalization, and although the technology sector has experienced extreme volatility over the past few weeks, Alphabet has shown strong growth and consistency over the past few years.

Stock Performance Highlights 52 week High $1,198.00 52 week Low $834.60 Beta Value 1.25 Average Daily Volume 2.321 m

Share Highlights Market Capitalization $718.85 b Shares Outstanding 349.84 m Book Value per share $219.50 Current EPS $18.22 (Low EPS due to large one-time transition tax in 2017) P/E Ratio 29.5 Dividend Yield 0% Dividend Payout Ratio 0%

Company Performance Highlights ROA 6.42% ROE 8.30% Sales $110,855 m

Financial Ratios Current Ratio 5.14 Debt to Equity 2.6%

Alphabet Inc. (NYSE: GOOGL)

April 17, 2018

Current Price $1,075.39 Target Price $1,125-$1,150

Alphabet Exhibits Potential for Continued Growth

• Industry: Being one of the “Big 5” technology companies,Alphabet is forced to continue to innovate if they wish to remainan industry leader and keep up with the rising demand for newertechnology. Based on our research and projections, along with nothaving a real direct challenger competing with them, we seecontinued growth for Alphabet going forward.

• Demand for Technology: In a world becoming increasinglydependent on technology, the demand for innovation has neverbeen higher. Alphabet remains a leader in the industry in terms ofdeveloping new technology and ways to make everyday lifeeasier, and we believe, along with the need for people to get moreinformation faster, will push the company to continue itsimpressive growth over the past few years.

• Valuation: Alphabet does not pay dividends, so our DCF/EPmodel is the model we feel most confident in. The partial yearadjustment value we calculated is $1,124.34, which is adjusted toreflect the current price estimate, rather than at the end of fiscal2017.

• Challenges: One of Alphabet’s most recognizable, yetmanageable challenges is dealing with ad-blockers. Since a largemajority of their revenue comes from the advertisements onGoogle, that could be a potentially growing issue for theirrevenue. Additionally, with the huge impact the technology sector has on the market and everyday life, there is added pressure on anindustry leader like Google to not only meet, but exceedexpectations.

One Year Stock Performance

Source: Yahoo Finance

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Economic Analysis U.S. Gross Domestic Product Gross Domestic Product (GDP) is the monetary value of all finished goods and services produced within a country’s border within a specific time period. GDP relates to how the economy is doing as a whole, and when GDP rises so does the overall amount people spend on certain goods. Advertisers have the opportunity to capitalize on marketing specific products, and since Google is the largest online advertiser, the rise in GDP will increase their revenue streams. In quarters 2, 3, and 4 of 2017 GDP growth had risen by 3.1 %, 3.2 %, and 2.9% respectively11. This is high in comparison to recent history as the lowest 2.9% growth is still higher than any of the preceding 8 quarters. You can see GDP growth in the chart listed below:

Source: Trading Economics The consumer tech sector’s direct, indirect, and induced value added is responsible for 10.3% of the United States’ GDP. We believe that the overall GDP will grow by 2.7% over the next year, and reach a steady-state of 2.5% over the next three years. The FED has been increasing interest rates and is expected to keep doing so throughout 2018, which in turn raises the cost of capital. With U.S. GDP being at a peak right now along with these other factors, we predict the economy will soon slow down as well as the GDP growth rates with it. Consumer Spending Consumer spending is a good indicator for the current state of the economy because it is able to show how much of the GDP is being used to purchase goods and services rather than invested or saved. In the last five years consumer spending has increased significantly. In particular, spending within the information technology sector has increased by 155%15.

Source: Trading Economics The upward trend in consumer spending is favorable for Google as people more likely to buy hardware products and use its technology to access websites and increase their exposure to ads. Disposable personal income has also shown tremendous growth in recent history as it has increased $2.5 billion over the last five years6.

Source: FRED With the rise in DPI and consumer spending in the sector, tech companies have to keep up with innovation and reinvest more of their profit in research and development to satisfy the needs of the consumer. The Big Five tech companies (Alphabet, Amazon, Apple, Facebook, and Microsoft) have averaged $44 billion per year in innovation spending since 2011. The increase in consumer spending along with R&D allows these tech companies to increase their market value at a lightning fast pace. We believe that all of these factors will contribute to the technology sector and it will continue to grow at a fast pace over the next 10 years before starting to reach a steady-state, as it is already the fastest growing sector in the economy. Current Employment Statistics Disregarding the recession in 2008 and 2009, unemployment in the U.S. tends to generally be low and starts to decrease back down to its normal rates as soon as the event bringing it up ends. The unemployment rate in

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the U.S. is the lowest it has been since 2000 as seen in the graph below:

Source: FRED Employment is projected to increase by 11.5 million over the next 10 years7, the technology field is projected to grow faster than the average of all other areas and provide the market with around 550,000 jobs over that time. Although rather volatile by quarter, unemployment in the information technology sector has shown a decreasing pattern and is currently at almost half of what it was in 20101, as seen in the graph below:

Source: Statista The constant employment growth rate combined with the high requirements of educated and skilled-labor in the IT sector indicate the economic strength of the area and will have influence on the revenue growth rates of related companies. We believe that the projected rates for unemployment are accurate and that the rate of unemployment will continue to follow these trends unless a catastrophic economic event takes place. Based on all the underlying conditions involved with unemployment we can reasonably assume the unemployment rate of the IT sector will continue to be around 4% over the next few years, and then reach a steady-state of 3.5% in three years due to the current strength of not only the IT sector but the U.S. economy as a whole.

S&P 500 The S&P is one of the best indicators if how the U.S. economy is doing because it holds the market capitalizations of 500 large companies listed on the NYSE or NASDAQ. The graph below shows the current breakdown of sectors’ weights in the S&P 500 as of March 29, 2018:

Source: SPindicies The IT sector is the largest sector in the index and makes up nearly a quarter of the S&P at 24.9%12, up from 20.4% during mid-2017. The S&P was up over $1.5 trillion from January 2017 through May 2017, and during this period the Big 5 tech companies made up 37% of those gains; while the rest of the U.S. economy grew at less than 1%12. The chart below illustrates the recent booming of tech companies as Amazon became more valuable than Walmart in 2015:

Source: recode Digital industries including tech have a productivity growth average of 2.7% annually over the last 15 years, while physical industries grew 0.7% over the same span16. The IT sector has outperformed the market as a whole every year over the last ten years with the most recent year’s gap being around 13%. We believe the heavy weighting of technology as well as the massive growth the sector has been experiencing due to the ever-

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increasing demand for technology in everyday lives should not be changing anytime soon, and that growth will continue to drive the S&P going forward over the next decade. Market Outlook Now is the perfect time to invest in IT, as it is the largest and fastest growing sector in the market. Over the last five years their growth has ranged between 5.6% and 19.3%, with the former occurring when half of the other sectors experienced losses. The increase of $2.5 billion in disposable income drives the tech sector and continues to increase market value. With technology become more advanced and in demand year after year we believe the technology sector will continue to be the leading sector in the market, and the Big Five will continue their rigorous innovations through their high R&D spending. Along with the increase of disposable income, the IT sector continues on a steady decline in unemployment, indicating a bright future for investors. We also feel that the software industry has the most potential in the IT sector because software is continually replacing physical entities such as CDs, and software singlehandedly boosted the U.S. GDP by $1.14 trillion dollars in all 50 states while supporting 10.5 million jobs in 2016.

Industry Analysis Industry Overview Alphabet is primarily in the online advertising industry, overlapping with them being in the search engine industry. Other companies in the advertising industry include Bing, Yahoo, and Facebook. The industry operates on a paid-per-click basis, so these companies pay Alphabet every time someone clicks on one of their ads from an Alphabet website. Companies will also pay large amounts of money to be one of the first companies that will come up in a Google search. Business Segments Alphabet has two primary business segments, which are Google and Other Bets. Google has completely transformed the way we use and find the information we need. When someone needs a quick answer, Googling it is almost always the solution, as shown by its 3.5 billion searches daily9. With the need for quick information growing by the day, we see the number of online searches increasing further from 3.5 billion. Alphabet’s other business segment is Other Bets. Other Bets is focused heavily on developing new and better technology. Other Bets is responsible for products such as Google Home, which competes with products such as Amazon’s Alexa,

as well as Waymo, an autonomous vehicle project that is looking to challenge the likes of Tesla in the coming years. Revenues Online advertising is not only growing in the United States, but worldwide as well. The chart below shows the percentage of online ads worldwide as a percent of total advertising spending. The growth shown in the chart below makes a strong case for Google to continue being a dominant revenue stream for Alphabet in the coming years.

Source: eMarketer The chart below shows how revenues have grown for the online advertising industry in the United States since 2000, with a jump of 22% from 2015 to 2016.

Source: PwC and IAB We believe these two charts are both strong indicators of Google continuing to propel Alphabet forward as the industry leader in online advertising going forward.

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Porter’s Five Forces The threat of entry into the technology space is high, due to a large amount of funding being available to new companies wanting to enter. Investors are looking for the “next big thing” in technology because of how influential technology is in the world today, and how quickly a new tech company can take off. The chart below gives some insight into venture capital firms desire to invest in these tech companies, showing 51% of venture capital investments in 2016 going into the technology space, including both software and hardware.

Source: National Venture Capital Association Although funding is readily available for new technology companies, we do not see any new entrances as a threat to Alphabet. The dominance of Alphabet and Facebook in the online advertising space leads us to conclude that none of these newer, smaller companies will challenge them for market share. Additionally, these smaller companies may feel intimidated by Alphabet, and draw them away from focusing on online advertising. In terms of threats to substitute, the only real threat in advertising space is Facebook, although we do not feel they are a direct competitor. The reason for the competition is because the two companies do not directly compete for customers, as Alphabet, or Google in this case, brings in customers for information, while Facebook brings in its customers for social media. The next graphic shows the market share in the online advertising industry, and the dominance of Alphabet and Facebook in the space.

Source: eMarketer We believe the previous graph is a very positive sign for Alphabet, as the two companies do not directly compete with each other. The negation of competition means that if Facebook gains more market share, that doesn’t necessarily mean that Alphabets will go down or be affected. The two companies together had about a 63% share of the market in 2017, and that is projected to get to about 67% by 20193. The bargaining power of buyers in the online advertising industry is low, because of the power and influence of the top players. If a company doing online ads wants their ad to be seen, they know that Google is the best place to go for that. The chart below shows the market share for search networks, and it isn’t even close.

Source: Pedestal The above graph shows us that Google has strong negotiating power with companies that want to use their sites for ads because of the sheer volume the sites get. On the other hand, bargaining power for suppliers is tough for the online advertising industry as firms are not providing physical products, but different speeds or data storages. We concluded that suppliers have weak bargaining power because of the high availability and high number of suppliers available.

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The competition that Alphabet faces in the online advertising industry is not strong due to the duopoly they have on the industry with Facebook. Since Alphabet is a diverse company and using its Other Bets division to access more industries, we believe Alphabet’s competition will grow in the future due to them becoming increasingly more diverse. The online advertising competition with Facebook does not worry us as a group because of the dominance they have in online searching and advertising that we believe will be a continuing trend, but increased competition in these other spaces is something to look out for as they attempt to become more diverse.

Source: Alphabet SEC Filings Based on these five forces, we believe the future for Alphabet is strong. Since Alphabet has power over both buyers and suppliers due to their influence in the industry, it will allow them to control pricing and other negotiated terms in deals. We also concluded Alphabet will continue to raise its commitment into R&D expenses for its Other Bets segment to try and diversify its revenue stream. It seems to be a growing trend with larger companies to become more diversified (Amazon and Apple for example). Although Google has a clear lead in the online advertising space, it is clear that Alphabet wants to diversify its revenue streams to become a larger player in other industries, the electric car market for example with its Waymo project. Advertisement Blockers Ad blockers is an interesting thing for Alphabet because Google Chrome, the most used web browser with about a 60% market share5, has an ad-blocking system. The question is why would Alphabet, who receives the majority of its revenue from ads on Google, have a browser that blocks ads? The reason is because Google wants to rid the net of some of the worst, most annoying ads their customers may find, to keep those customers from installing more aggressive ad blocking software that could actually have a larger effect on their revenue4. With that in mind, we believe that ad blockers are nothing more than an inconvenience for Alphabet because people will not stop using Google, as other search engines use ads for revenue as well. However, even if we believed ad blockers poised a real threat, the fact that Alphabet is looking to diversify its revenue would end up negating

some of that lost revenue, depending on how Alphabet continues to develop its Other Bets segment. Cost-per-Click The cost-per-click model is how companies in the online advertising industry get paid. The average cost-per-click is between $1 and $213, which means that every time someone clicks on an ad on Google, the company who owns that ad pays Google whatever the predetermined rate is. Large retailers can spend up to $50 million per year on these ads13, so it is easy to see how Google has large revenue from these online ads, and why the cost-per-click is the model that online companies are starting to adopt as the world moves more online. Desktops vs. Mobile Below are a couple of graphs showing the trend from moving from desktops to mobile. The growing trend to mobile is a trend that benefits online advertising companies such as Google, because it is easier than ever to access the internet from almost anywhere at any time, and that means more potential for online traffic. The first chart below shows the trend over time of desktop vs. mobile searches, where mobile passed desktop around 2014. The graph at the top of the next page shows percent of time online via mobile across different countries. As both of these graphs show, mobile is starting to heavily overtake desktop, which makes sense given the ease of use and mobility. The growing mobile trend will help Alphabet going forward due to increased activity.

Source: Morgan Stanley Research

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Source: ComScore Competitor Comparisons We will be focusing on Facebook as the only real competitor to Alphabet. Our group focused on Facebook as they are the only company comparable to Alphabet in terms of size and market share. Other companies in the online advertising space are not big enough to warrant comparison. Although Facebook is not a direct competitor because it is a social media site, it still generates the majority of its revenue through online advertising.

Source: Facebook and Alphabet 10K The metrics we used to compare Facebook to Alphabet were chosen because of their relevance in the technology sector. The PEG ratio gives us insight into how their Price/Earnings ratio is compared to the growth rate of its earning. Although they are similar numbers Facebook has a lower PEG at 0.83 compared to Alphabets 1.2 which means that Alphabet may be slightly overvalued given its earnings performance. Although Alphabet’s ROE was extremely low in 2017 due to a one-time transition tax, we project it to be 13.88% in 2018 which is a much more comparable to Facebook’s 21.43%. Even though Facebook has a higher ROE Alphabet still has a solid percentage, which shows that they do a good job of generating revenue with the money shareholders have invested. Lastly the current ratio for Alphabet is 5.14 compared to Facebook’s 12.92, which shows each

company’s ability to pay off short-term and long-term debt. Alphabet does a good job at keeping their current ratio around 5, which means they should have no problem paying off any debts, as they already have little to no debt. We also believe the reason for Facebook’s current ratio being so high is due to the fact that they produce almost no physical goods, which would generally have a positive impact on the current ratio. Although Facebook is not the ideal firm to compare to Alphabet, no firm is, so these metrics serve as the best representation we have as to how they fair in the market. Some metrics may seem off when compared to one another, however we must keep in mind these are two completely different corporations and Alphabet’s numbers are still very good when compared to most companies, which is why we believe in Alphabet being one of the elite entities in the technology sector. Catalysts for Growth/Change We believe the biggest potential for growth in the online advertising space is simply increased access to the internet. The % of internet users in the world passed 50% for the first time in early 2017, and was about 54.4% as of the end of 201710. That represents about an 8% jump from just the end of 2015, so the amount of people gaining access to the internet literally grows by the day. As more countries become more developed and a larger percentage of people in the world gain steady access to the internet, the potential for growth in the online advertising space will only increase. One potential issue we see in the industry going forward is just the sheer amount of data that is produced on a daily basis. According to a 2017 report, about 90% of the data in the world has been created over the past 2-3 years8. The reason for that statistic is technology and the demand for it, along with needing more data faster, only grows by the day. We see that demand as a potential issue in the future, mainly for cybersecurity reasons. An increase in that much data means an increase in technologies attempting to steal that data, whether that be on a personal level, or a country-wide level. With the increase of new data being pumped into the world, leading firms such as Alphabet need to make handling and securing all of the data as one of their top priorities. Key Positive and Key Negative A key positive for the online advertising is the overwhelming potential given today’s society. One thing stressed throughout our report is the internet and people with access to it is growing by the day. That fact alone means increased potential revenue from each new person that has internet access, and mobile devices are making it easier than ever. A key negative for Alphabet is Google’s cost-per-click numbers are continually declining over the past few years.

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The chart on the next page shows the decline of cost-per-click over the Q1 2016 – Q2 2017 time period.

Source: WebmasterWorld Although the decreasing cost-per-click is clearly a negative trend for Google, the sheer number of new ad volume they achieve works to outweigh that downward trend, along with the face that Google’s pricing power will increase as its duopoly with Facebook grows even stronger.

Company Analysis Background Information Alphabet Inc. is an American multinational holding company in the technology sector. Alphabet is made up of two main sections: Google Inc. and Other Bets. Google was founded in 1998 by Larry Page and Sergey Brin. Google’s next big step as a corporation took place on August 19, 2004 when they had their initial public offering. Alphabet was created on October 2, 2015 through the corporate restructuring of Google to become the parent company.

Source: Statista

As shown in the previous graph, Alphabet’s major revenue streams come from Google, consisting of over 98% of their revenues, Other Bets consists of around 1% of their revenues. Although Other Bets makes up a small portion of their revenues, the main purpose behind it is not as a major income generator, but to hold companies that are on the forefront of innovation. Even though Other Bets is not currently profitable, Alphabet believes the associated costs are worth the temporary loss because of the innovation coming from these companies and their ability to sustain Other Bets due to their large revenue streams from Google. Products Google makes up the vast majority of Alphabet’s revenues, which comes from advertising via their search engine platform. Google is the leading search engine used worldwide and handles over 2 trillion searches every year. Because of its extensive reach, Google is able to utilize and generate profits from advertisements on their site. They use a cost-per-click model, which means every time an ad is clicked the advertiser pays a fee to Google. From our revenue decomposition we know that Google’s advertisements generate the most revenues at 86.04% of their total revenues. Google’s other revenues make up 12.88% of total revenues, which is primarily made up of hardware, apps, in-app purchases, and the google cloud. The other 1.08% of total revenues comes from the Other Bets section. The primary function is not to generate income but rather to fulfill Google’s vision to create state-of-the-art technology at the forefront of the sector. Some major companies that are included in other bets are Google Fiber, Calico Labs, Nest, Verily, and 𝐺𝐺V2. Google Fiber is an internet service provider, which aims to provide super-fast internet speeds across the U.S. Calico Labs is a team of world renowned scientists that study the variables of aging and how to increase the human life span. Nest is devoted to creating smart-home technology that will be the base of all future modern homes. Verily is trying to change the way we do healthcare by using futuristic technology to help people live better and safer lives. Lastly GV is Google’s venture capital firm, which uses their capital to invest in startup companies in the technology field. Recent Revenue Changes Q4 2017 was a strange quarter for Alphabet due to the large one-time tax of $10 billion it incurred. We will take a look at how different revenues and costs changed from Q4 2016 vs. Q4 2017 to give a broader look at how things changed over that year span. Alphabet’s revenue was up to $32.32 billion for Q4 2017, compared to $26.06 billion for Q4 2016. The main reason is although Google’s cost per click has been declining,

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their total paid clicks has grown 57% in that year. Additionally, Google’s traffic acquisition costs, which is the money it has to pay other companies as referral fees, grew from 22% up to 24% of advertising revenue over that year span. We believe traffic acquisition costs are likely to continue to grow due to the increased access to the internet via mobile devices. An area that saw positive growth outside of their main advertising revenue was Google’s other revenues, which includes things like hardware revenue as well as the Pixel phones and other smart devices. Q4 2017 revenue was $4.69 billion, up from $3.4 billion in Q4 2016. We see the Other Revenues segment continuing to increase for Alphabet, mainly behind the demand for smart devices. Cost Structure Cost structure for the online advertising industry has already been discussed at a couple of different points in our report, so we will give a brief summary and some specific numbers for Alphabet. Traffic acquisition costs make up a large portion of Alphabet’s cost of revenue. The cost was about $5.5 billion in Q3 2017, compared to about $4.2 billion in Q3 2016. Traffic acquisition cost eats up anywhere from 20%-25% of ad revenues on a quarterly basis, and we believe the cost will continue to increase at a steady rate for Google, due to increased mobile searching and internet use. The following graph shows a small example of the increasing traffic acquisition cost trend.

Source: Alphabet SEC Filings Another large cost for Alphabet is its R&D expenditures, mainly going into the Other Bets segment. R&D will continue to be a large and increasing expenditure for Alphabet, as they are committed to the idea of innovation, and feel confident in the projects they are developing. Although not currently profitable, we believe the research being done here will eventually lead the segment to some truly innovative and unique business opportunities that will start to bring in increased revenue for Alphabet, and

justify their huge R&D budget of about 18% of sales currently. Competition We provided a detailed analysis on our competition in the industry analysis section. Here, we would like to reiterate the dominance Alphabet has in the online advertising space, with its only real competitor in Facebook, not being a direct competitor. Other large companies such as Amazon, Twitter, and Microsoft have advertising revenue for themselves but they are dwarfed in online advertising space by Alphabet because that is not what those other companies focus on. The market share Google has with Facebook allows them to dominate the industry, and we do not believe there are any companies out there currently that pose a real threat to Alphabet. Catalysts for Growth/Change Since Alphabet is such a dominant player in online advertising, we believe their biggest potential for even larger growth would be for their Other Bets division to deliver a groundbreaking new product. We gave an earlier example of Waymo, their self-driving car project, but Tesla is currently the big player in that space and it would be difficult for Alphabet to gain a large market share. With that in mind, we believe the continued development of smart devices would be a place that Alphabet could make a big push. The demand for these products is growing by the day, and people want them even smarter. The global smart home market is expected to almost double from 2017 to 2022, up to a $53.45 billion dollar industry14. The potential in the smart market is massive, and with Alphabet pumping money into R&D to make these devices smarter, we believe they could make a big push to control the smart product space in the coming years. Key Positive and Key Negative We realize that although we have a “buy” rating on Alphabet, there are some negatives and risks associated with it. Here we will examine one key positive and one key negative that investors should know about Alphabet. A key positive for Alphabet is its continued commitment to diversify and not rest on its Google revenue. It would be easy for Alphabet to focus solely on Google’s ad revenue, but they have decided to pump a lot of that money into developing new and better technologies for the world. We believe diversifying is a positive because it allows Alphabet to expand and gain market share into other industries, so if somehow their Google revenues tanked, they would have other areas to fall back on.

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A key negative for Alphabet goes along with its biggest strength, which is its advertising revenue. We believe that although Alphabet is doing very well in the online advertising space currently, they are a little too dependent it. We believe Alphabet has the same thinking, which is why they have their smart products and their Other Bets segment, which is working to diversify its revenue streams. If the economy takes a bad turn, companies would likely decrease advertising costs and that could potentially harm Alphabet’s revenue. That being said, we don’t see a potential decrease in ad revenue as a huge issue, and we believe the Other Bets segment will allow Alphabet to get a more diversified income stream in the future, which we believe is in the best interest of the company.

Valuation Analysis Revenue Decomposition Alphabet has 4 sources of income. Google Properties, Google Network Members’ Properties, Google Other Revenue, and Other Bets. The graphic below shows how we have projected out these segments growing over the next 5 years. With Alphabet not being a relatively transparent company, we have made these forecasts based off of the industry analysis we provided, as well as where we believe tech is going into the future.

Google Properties Google Properties is the segment that derives most of Alphabet’s revenue. Revenue generated here is from total paid clicks and cost-per-click. Currently, google Properties segment makes up about 70.7% of Alphabet’s revenue. We have the Properties growing slightly to about 72% of revenue by 2022. The growth is due to projected total clicks continuing to rise at about a 5% average over

the next 5 years, while cost-per-click will be falling at about an average of 1.5% over that same period. With total clicks rising faster than cost-per-click is falling, Google Properties will continue to grow and drive Alphabet’s earnings. Google Network Members’ Properties Google Network Members’ Properties currently makes up about 15.8% of Alphabet’s revenue. While we still have segment growth at a modest rate over the next five years, we believe the segment’s percent of total revenue will decrease to about 12.5% by 2022. The decrease is largely due to increasing traffic acquisition costs, which leads us to conclude that Google will not take on additional partners. Network partners will remain a significant part of Alphabet’s revenue, but we believe they will focus growth on their other segments. Google Other Revenues Other Revenues include Google Cloud and hardware sales, including smart devices such as Google Home. Google Other Revenues segment currently makes up about 12.9% of total revenue, with projected increase to about 14.3% at 2022. We see Google Other Revenues as a big opportunity for Alphabet because of the smart devices included here. Smart devices are becoming increasingly more popular and available, and we believe Alphabet will capitalize on the smart product opportunity to grow its share in that space. Other Bets Other Bets is the most difficult segment to project. Although revenues have been growing, and we project they will continue to do so at roughly 15% average over the next 5 years, it has yet to become profitable. The lack of profits is not a huge issue because it is not meant to be profitable yet. Currently, the segment only makes up about 1.1% of Alphabet’s revenue. We see the revenue increasing slightly to 1.2% by 2022, with the potential for a larger return if any of their projects start to take off. Operating Expenses Cost of Revenues Alphabet reports cost of revenues including depreciation and amortization. We separated those out to get the true cost of goods sold, and so we could forecast depreciation and amortization separately according to the company rates. Cost of revenues, not including depreciation and amortization, currently makes up about 34.9% of total revenue. We project cost of revenue remaining relatively constant at about 35% of revenue. Although Google is seeing an increase in its traffic acquisition costs, we believe Google will not be taking on additional partners to try and offset some of that rising cost.

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Alphabet Segment Growth

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Other Bets

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Research and Development With Alphabet being an industry leader, they are forced to continue to innovate or fall behind their competition. With that in mind, Alphabet pours a large amount of money into their R&D budget, currently about 15% of total revenue. We believe R&D will increase steadily over the next 5 years, up to 20% of revenues by 2020. The R&D money is mainly used in the Other Bets segment to fund new projects that Alphabet feels have the potential to break them into other industries and become a major player in those industries. Selling and Marketing Expenses Selling and marketing expenses include the marketing Google does, as well as the labor cost that go along with that. S&M expense currently makes up about 11.6% of total revenue. We see S&M remaining relatively constant over the next five years, as we believe the correlation it has with revenue will keep the percent relatively constant. Although the total amount spent will continue to grow at roughly 10% per year, mainly due to increased marketing for new products, the increasing revenue will keep place or slightly outpace the S&M expense. General and Administrative General and Administrative expenses include other labor expenses and other everyday expenses a company occurs, currently making up about 6.2% of total revenue. We see G&A expense as similar to selling and marketing, while although the dollar amount will continue to increase to compensate for inflation and other adjustments, the percent of revenue will remain relatively constant at 7.75%. We have G&A increasing slightly from the 6.2% due to increased labor costs that will come with inflation, as well as hiring/retaining key employees. WACC Calculating the WACC for Alphabet was easy due to the minimal debt the company has. The calculation is heavily weighted towards equity because of that fact. Alphabet, like Apple, has a very large cash reserve that allows it to keep minimal debt. Cost of Equity We calculated the cost of equity using the standard CAPM. The risk free rate we used was the yield of the 30 year treasury as of early April 2018, which was 3.03%. For the equity risk premium, we used the trailing 12 month cash yield from Damodaran of 4.96% because it has historically been a good proxy for the market. We believe the 4.96% yield is in line with what it should be because the market has historically been good, but recent volatility has cause it to increase close to that 5%. Our beta of 1.25 was calculated by taking the average of the monthly and weekly 2 year, 3 year, 4 year, 5 year, and 10 year raw betas. Our cost of equity of 9.82% was

calculated by multiplying the market risk premium with the beta, and adding the risk free rate. Cost of Debt Our after-tax cost of debt was calculated by taking our pre-tax cost of debt and multiplying it by (1-marginal tax rate). We got our pre-tax cost of debt by taking the return on a 30 year corporate bond that had the same rating as Alphabet, because Alphabet didn’t have any. We chose Apple because Apple had the same AA+ Moody’s rating and Apple is a company of similar size to Alphabet. The return on that bond was 3.05%. We then added the default rate for 30 year AA+ bonds which was .026% to get 3.31%. Multiplying that by (1-21%) we got an after-tax cost of debt of 2.61%. Weights To get the value of equity we multiplied the total shares outstanding by the current stock price which gave us a value of $727,347.48. To get the value of debt we added the value of Alphabet’s long term debt and their present value of operating leases to get a value of $11,474.82. We then added those two values and divided the original values by that total to get the weights, 98.45% for equity and 1.55% for debt. We then multiplied those weights by their respective costs and added them to arrive at a WACC of 9.13%. The reason for such a low cost and weight of debt is because Alphabet does not need to take on a large amount of debt, and we see that staying the case in the future. Relative Valuation Models Given Google is a unique company in size and operations, it is difficult to measure against other firms. We do not put much emphasis on the price range we got from the relative valuation model, which is $611.56 - $1,136.27. Although the high number in that range is around our target price, we concluded that alphabet is too difficult to compare to other companies. The average P/E ratio from our companies was 18.02, well below Alphabet’s 30.8. The reason Alphabet trades at such a high P/E is because it is considered a premium company due to its size and market share, and therefore must be paid for based on not only the company performance, but based on what the company has done and is capable of doing in the future. The average PEG ratio from our companies was 1.32, slightly above Alphabet’s at 1.3. That 1.32 may have been slightly skewed due to Microsoft’s 2.26. A higher PEG ratio indicated that the company may be overvalued based on how it is trading. The slightly higher PEG ratio does not concern us because of the fact that Alphabet is a premium company, and is treated as such in the market.

12

Dividend Discount Model The dividend discount model is the worst model to use for Alphabet because they do not pay dividends, and they have no plans to start paying dividends in the future. The adjusted value of $507.50 we calculated is clearly low due to the lack of dividends, and therefore should be ignored. DCF and EP Model Given the relative valuation and dividend discount model are both ineffective ways to value Alphabet, we believe the DCF and EP models are the most effective way to value the stock. The adjusted value for the stock using these models was $1,125.06. We feel $1,125.06 is an accurate representation of about where Alphabet’s stock is valued, again due to it being a premium company. The DCP and EP models are the best because it doesn’t factor in other companies that are not great comparisons, it only uses the companies own data. Sensitivity Analysis Google Properties Growth vs. Risk Free Rate Google Properties revenue is the largest segment of Alphabet’s revenue stream, causing the increase or decrease in sales to have a significant effect on the stock price. The range we calculated was $986.24-$1,292. Additionally, the risk free rate has a large impact on the stock price as it goes into the cost of equity calculation which affects the company’s WACC calculation. CV Growth of NOPLAT vs. WACC For the CV growth of NOPLAT vs. WACC analysis, we calculated a range of $1,019.45-$1,266.09. We concluded that because Alphabet has very little debt, the change in its WACC will be due to an increase in the company’s beta or Equity Risk Premium. Alphabet should focus on growing their CV growth of NOPLAT while attempting to keep their WACC relatively constant. R&D Expense vs. Beta Alphabet will continue to increase its R&D budget as they will continue to invest in their Other Bets segment. The increase in expenditure will have a negative effect on their stock price until the Other Bets see more of a return for Alphabet. Beta is something that is difficult to control for a company because it involves market forces. Although increasing R&D expenses has a negative effect on price, we do not believe the increased expense is an issue because of the potential revenue in the future. We calculated a price range of $942.16-$1,331.15 for these variables.

CV Growth of NOPLAT vs. COGS Based on our group’s analysis, we determined that CV growth of NOPLAT has a large effect on stock price, even more so than COGS did. COGS is a single variable, while CV growth takes into account multiple variables and has a greater amount of variables in its calculation. Alphabet should focus on keeping its COGS at a steady rate of 35% to keep it from effecting their stock price. If the firm is able to lower their COGS, it would increase its CV growth and allow the stock price to increase at a faster rate. The price range we calculated here was $831.29-$1,680.61. Risk Free Rate vs. Equity Risk Premium Both of these variables have a similar effect on how they affect the stock price. As either of them increase, the stock price decreases. These are 2 of the 3 elements used to calculate the cost of equity, so it makes sense they would have similar effects. Given that Alphabet has a large cost and weight of equity, we calculated a large range of prices with these changing variables of $951.89-$1,387.57.

13

References

1. BLS. (2018 April 12). Labor Force Statistics.

Retrieved from https://data.bls.gov/timeseries/LNS14000000

2. Business Insider. (2017 February 6).

Breakdown of Alphabet’s Other Bets. Retrieved from http://www.businessinsider.com/breakdown-of-alphabets-4-billion-worth-of-other-bets-2017-2

3. eMarketer. (2017 September 21). Google and

Facebook Tighten Grip on US Digital Ad Market. Retrieved from https://www.emarketer.com/Article/Google-Facebook-Tighten-Grip-on-US-Digital-Ad-Market/1016494

4. Finley, K. (2018 February 02). Google’s New

Ad Blocker Changed the Web Before it Even Switched On. Retrieved from https://www.wired.com/story/google-chrome-ad-blocker-change-web/

5. Fossbytes. (2018 January 20). 10 Best Web

Browsers for Windows to Access Your Favorite Sites in 2018. Retrieved from https://fossbytes.com/best-web-browsers-for-pc/

6. FRED. (2018 March 29). Real Disposable

Personal Income. Retrieved from https://fred.stlouisfed.org/series/DSPIC96

7. FRED. (2018 April 6). Civilian Unemployment

Rate. Retrieved from https://fred.stlouisfed.org/series/UNRATE

8. Hale, T. (2017 July 26). How Much Data Does

the World Generate Every Minute? Retrieved from http://www.iflscience.com/technology/how-much-data-does-the-world-generate-every-minute/

9. Internet Live Stats. (2018). Google Search

Statistics. Retrieved from http://www.internetlivestats.com/google-search-statistics/

10. Internet World Stats. (2018). Internet Growth

Statistics. Retrieved from https://www.internetworldstats.com/emarketing.htm

11. PWC. (2016 August). U.S. Economic

Contribution of the Consumer Technology Sector. Retrieved from http://www.cta.tech/cta/media/ResearchImages/U-S-Economic-Contribution-of-the-Consumer-Technology-Sector-2016.pdf

12. S&P Indices. (2018 April 7). U.S. Equity

Sector Industry. Retrieved from https://us.spindices.com/index-family/us-equity/sector-industry

13. Shewan, D. (2017 December 11). How Much

Does Google AdWords Cost? Retrieved from https://www.wordstream.com/blog/ws/2015/05/21/how-much-does-adwords-cost

14. Statista. (2018). Forecast Market Size of

Global Smart Home Market from 2016 to 2022. Retrieved from https://www.statista.com/statistics/682204/global-smart-home-market-size/

15. Trading Economics. (2018 January). United

States Consumer Spending. Retrieved from https://tradingeconomics.com/united-states/consumer-spending

16. Wall Street Journal. (2018 February 21). Why

Productivity Growth May be Poised to Recover. Retrieved from https://blogs.wsj.com/economics/2018/02/21/why-productivity-growth-may-be-poised-to-recover/

14

Important Disclaimer This report was created by students enrolled in the Security Analysis (6F:112) class at the University of Iowa. The report was originally created to offer an internal investment recommendation for the University of Iowa Krause Fund and its advisory board. The report also provides potential employers and other interested parties an example of the students’ skills, knowledge and abilities. Members of the Krause Fund are not registered investment advisors, brokers or officially licensed financial professionals. The investment advice contained in this report does not represent an offer or solicitation to buy or sell any of the securities mentioned. Unless otherwise noted, facts and figures included in this report are from publicly available sources. This report is not a complete compilation of data, and its accuracy is not guaranteed. From time to time, the University of Iowa, its faculty, staff, students, or the Krause Fund may hold a financial interest in the companies mentioned in this report.

Ticker Symbol GOOGL

Current Share Price 1,046.87$

Current Model Date 4/17/2018

FY End (month/day) Dec. 31

Cost of Equity 8.22%

CV ROIC 52.63%

Pre-Tax Cost of Debt 3.31%

Beta 1.25

Risk-Free Rate (30 YR US Treasury) 3.03%

Equity Risk Premium 4.96%

CV Growth of NOPLAT 4.50%

Marginal Tax Rate 21%

Effective Tax Rate 53.44%

WACC 9.13%

DCF/EP Intrinsic Value 1,125.06$

Key Assumptions of Valuation Model

Alphabet Inc.

1,124.34$ 2.73% 2.83% 2.93% 3.03% 3.13% 3.23% 3.33%

14.00% 1103.42 1081.71 1060.95 1041.07 1022.03 1003.77 986.24

14.50% 1117.68 1095.63 1074.54 1054.35 1035.01 1016.46 998.66

15.00% 1132.20 1109.80 1088.38 1067.87 1048.22 1029.38 1011.29

15.50% 1146.97 1124.22 1102.46 1081.62 1061.66 1042.52 1024.15

16.00% 1162.01 1138.89 1116.78 1095.62 1075.34 1055.89 1037.23

16.50% 1177.30 1153.81 1131.35 1109.85 1089.25 1069.50 1050.54

17.00% 1192.86 1169.00 1146.18 1124.34 1103.41 1083.34 1064.07

17.50% 1208.69 1184.45 1161.26 1139.07 1117.81 1097.41 1077.84

18.00% 1224.79 1200.16 1176.61 1154.06 1132.45 1111.73 1091.85

18.50% 1241.17 1216.15 1192.21 1169.30 1147.35 1126.30 1106.09

19.00% 1257.83 1232.40 1208.08 1184.81 1162.50 1141.11 1120.58

19.50% 1274.77 1248.94 1224.23 1200.57 1177.91 1156.18 1135.32

20.00% 1292.00 1265.75 1240.64 1216.61 1193.58 1171.49 1150.30

1,124.34$ 8.53% 8.73% 8.93% 9.13% 9.33% 9.53% 9.73%

3.90% 1156.26 1112.56 1072.36 1035.14 1000.86 968.95 939.23

4.00% 1174.06 1128.71 1087.05 1048.56 1013.16 980.24 949.63

4.10% 1192.65 1145.54 1102.35 1062.51 1025.92 991.95 960.40

4.20% 1212.11 1163.13 1118.30 1077.02 1039.18 1004.10 971.56

4.30% 1232.48 1181.50 1134.94 1092.14 1052.97 1016.71 983.13

4.40% 1253.84 1200.73 1152.32 1107.90 1067.32 1029.81 995.13

4.50% 1276.27 1220.86 1170.48 1124.34 1082.26 1043.44 1007.60

4.60% 1299.83 1241.97 1189.47 1141.50 1097.84 1057.62 1020.54

4.70% 1324.62 1264.13 1209.37 1159.44 1114.08 1072.38 1034.01

4.80% 1350.75 1287.41 1230.23 1178.21 1131.05 1087.77 1048.02

4.90% 1378.31 1311.91 1252.12 1197.86 1148.78 1103.82 1062.61

5.00% 1407.43 1337.72 1275.13 1218.47 1167.33 1120.59 1077.81

5.10% 1438.25 1364.96 1299.34 1240.09 1186.75 1138.11 1093.68

1,124.34$ 1.19 1.21 1.23 1.25 1.27 1.29 1.31

14.00% 1331.15 1304.45 1278.90 1254.44 1230.99 1208.49 1186.90

14.50% 1308.01 1281.81 1256.75 1232.75 1209.75 1187.69 1166.50

15.00% 1284.86 1259.18 1234.60 1211.07 1188.52 1166.88 1146.11

15.50% 1261.71 1236.54 1212.45 1189.39 1167.28 1146.07 1125.71

16.00% 1238.57 1213.90 1190.30 1167.70 1146.04 1125.27 1105.32

16.50% 1215.42 1191.26 1168.15 1146.02 1124.81 1104.46 1084.92

17.00% 1192.28 1168.63 1146.00 1124.34 1103.57 1083.65 1064.53

17.50% 1169.13 1145.99 1123.85 1102.65 1082.34 1062.84 1044.13

18.00% 1145.98 1123.35 1101.70 1080.97 1061.10 1042.04 1023.74

18.50% 1122.84 1100.71 1079.55 1059.29 1039.86 1021.23 1003.34

19.00% 1099.69 1078.08 1057.40 1037.60 1018.63 1000.42 982.95

19.50% 1076.54 1055.44 1035.25 1015.92 997.39 979.62 962.55

20.00% 1053.40 1032.80 1013.10 994.24 976.15 958.81 942.16

1,124.34$ 32.00% 33.00% 34.00% 35.00% 36.00% 37.00% 38.00%

3.00% 1036.86 1002.60 968.34 934.08 899.82 865.55 831.29

3.25% 1065.42 1029.96 994.51 959.05 923.59 888.13 852.67

3.50% 1096.52 1059.76 1023.00 986.23 949.47 912.71 875.95

3.75% 1130.50 1092.32 1054.13 1015.95 977.76 939.58 901.39

4.00% 1167.80 1128.05 1088.30 1048.56 1008.81 969.06 929.31

4.25% 1208.92 1167.45 1125.98 1084.51 1043.04 1001.57 960.10

4.50% 1254.47 1211.09 1167.72 1124.34 1080.96 1037.58 994.20

4.75% 1305.23 1259.72 1214.22 1168.71 1123.21 1077.71 1032.20

5.00% 1362.13 1314.24 1266.35 1218.46 1170.58 1122.69 1074.80

5.25% 1426.36 1375.78 1325.20 1274.62 1224.04 1173.47 1122.89

5.50% 1499.44 1445.80 1392.16 1338.52 1284.88 1231.24 1177.60

5.75% 1583.33 1526.17 1469.02 1411.86 1354.71 1297.55 1240.40

6.00% 1680.61 1619.38 1558.15 1496.92 1435.69 1374.46 1313.23

1,124.34$ 4.66% 4.76% 4.86% 4.96% 5.06% 5.16% 5.26%

2.43% 1387.57 1346.35 1307.72 1271.46 1237.35 1205.20 1174.86

2.53% 1354.37 1315.25 1278.53 1244.01 1211.48 1180.80 1151.79

2.63% 1322.87 1285.69 1250.74 1217.84 1186.79 1157.46 1129.71

2.73% 1292.94 1257.56 1224.26 1192.86 1163.20 1135.14 1108.56

2.83% 1264.47 1230.77 1199.00 1169.00 1140.63 1113.76 1088.28

2.930% 1237.35 1205.20 1174.86 1146.18 1119.02 1093.27 1068.82

3.03% 1211.48 1180.80 1151.79 1124.34 1098.31 1073.61 1050.13

3.13% 1186.79 1157.46 1129.71 1103.41 1078.45 1054.73 1032.16

3.23% 1163.20 1135.14 1108.56 1083.34 1059.38 1036.59 1014.88

3.33% 1140.63 1113.76 1088.28 1064.07 1041.06 1019.14 998.25

3.43% 1119.02 1093.27 1068.82 1045.57 1023.44 1002.35 982.23

3.53% 1098.31 1073.61 1050.13 1027.78 1006.49 986.18 966.79

3.63% 1078.45 1054.73 1032.16 1010.67 990.17 970.59 951.89

Risk Free

CV Growth of NOPLAT

R & D Expenses (% of Sales)

Risk Free Rate

WACC

Beta

COGS (% of Sales)

Equity Risk Premium

CV Growth of NOPLAT

Google Properties Revenue Growth

Alphabet Inc.

Revenue Decomposition

In Millions Fiscal Years Ending Dec. 31 2014 2015 2016 2017 2018E 2019E 2020E 2021E 2022 CV

Google Segments:Google Properties $ 45,085.00 $ 52,357.00 $ 63,785.00 $ 77,788.00 $ 91,011.96 $ 105,573.87 $ 120,354.22 $ 134,796.72 $ 146,928.43

YoY % 20.48% 16.13% 21.83% 21.95% 17.00% 16.00% 14.00% 12.00% 9.00%

Google Network Members' Properties $ 14,539.00 $ 15,033.00 $ 15,598.00 $ 17,587.00 $ 19,345.70 $ 21,086.81 $ 22,773.76 $ 24,140.18 $ 25,347.19

YoY % Change 10.77% 3.40% 3.76% 12.75% 10.00% 9.00% 8.00% 6.00% 5.00%

Google Advertising 59,624.00$ 67,390.00$ 79,383.00$ 95,375.00$ $ 110,357.66 $ 126,660.69 $ 143,127.97 $ 158,936.91 $ 172,275.62

YoY % Change 17.96% 11.52% 15.11% 16.77% 15.71% 14.77% 13.00% 11.05% 8.39%

Google Other Revenues 6,050.00$ 7,154.00$ 10,080.00$ 14,277.00$ 16,846.86$ 19,879.29$ 23,059.98$ 26,288.38$ 28,917.22$

YoY Change % 21.68% 15.43% 29.03% 29.40% 18.00% 18.00% 16.00% 14.00% 10.00%

Google Segment Revenues 65,674.00$ 74,544.00$ 89,463.00$ 109,652.00$ 127,204.52$ 146,539.98$ 166,187.96$ 185,225.28$ 201,192.84$

YoY Chanage % 18.30% 11.90% 16.68% 18.41% 16.01% 15.20% 13.41% 11.46% 8.62%

Other BetsOther Bets Revenue 327.00$ 445.00$ 809.00$ 1,203.00$ 1,443.60$ 1,703.45$ 1,958.97$ 2,213.63$ 2,434.99$

YoY Change % 2625.00% 26.52% 44.99% 32.75% 20.00% 18.00% 15.00% 13.00% 10.00%

Total Revenue 66,001.00$ 74,989.00$ 90,272.00$ 110,855.00$ 128,648.12$ 148,243.43$ 168,146.92$ 187,438.92$ 203,627.83$

YoY Change % 18.88% 11.99% 16.93% 18.57% 16.05% 15.23% 13.43% 11.47% 8.64%

Aggregate Paid clicks change 20.00% 22.00% 34.00% 46.00% 55.00% 52.00% 43.00% 37.00% 25.00%

Aggregate cost-per-click change -6.00% -11.00% -11.00% -19.00% -15.00% -10.00% -4.00% 3.00% 6.00%

Alphabet Inc.

Income Statement

In Millions Fiscal Years Ending Dec. 31 2014 2015 2016 2017 2018E 2019E 2020E 2021E 2022 CV

Advertising revenues - Google websites 45,085.00$ 52,357.00$ 63,785.00$ 77,788.00$ $ 91,011.96 $ 105,573.87 $ 120,354.22 $ 134,796.72 $ 146,928.43

Advertising revenues - Google Network Members'websites 13,971.00 15,033.00 15,598.00 17,587.00 19,345.70 21,086.81 22,773.76 24,140.18 25,347.19

Google other revenues 6,945.00 7,151.00 10,080.00 14,277.00 16,846.86 19,879.29 23,059.98 26,288.38 28,917.22

Other Bets revenues 327.00 445.00 809.00 1,203.00 1,443.60 1,703.45 1,958.97 2,213.63 2,434.99

Total Revenues 66,001.00 74,989.00 90,272.00 110,855.00 128,648.12 148,243.43 168,146.92 187,438.92 203,627.83

Cost of Revenues 20,712.00 23,101.00 28,994.00 38,668.00 45,026.84 51,885.20 58,851.42 65,603.62 71,269.74

Depreciation 3,523.00 4,132.00 5,267.00 6,103.00 7,628.94 8,198.40 8,751.35 9,529.35 10,373.22

Amortization 1,456.00 931.00 877.00 812.00 757.04 544.15 391.12 281.13 202.07

Gross Profit 41,766.00 47,756.00 56,011.00 66,084.00 75,992.34 88,159.83 100,544.15 112,305.94 121,984.87

Research & development expenses 9,832.00 12,282.00 13,948.00 16,625.00 21,870.18 26,683.82 31,947.92 37,487.78 40,725.57

Sales & marketing expenses 8,131.00 9,047.00 10,485.00 12,893.00 15,318.57 17,651.85 20,021.82 22,318.99 24,246.65

General & administrative expenses 5,851.00 6,136.00 6,985.00 6,872.00 9,965.20 11,483.07 13,024.81 14,519.19 15,773.20

European Comission fine - - - 2,736.00 - - - - -

Total costs & expenses 49,505.00 55,629.00 66,556.00 84,709.00 99,809.73 115,902.33 132,597.32 149,458.93 162,388.38

Income from operations 16,496.00 19,360.00 23,716.00 26,146.00 28,838.39 32,341.09 35,549.60 37,979.99 41,239.45

Interest income 746.00 999.00 1,220.00 1,312.00 2,933.88 3,348.66 3,790.18 4,417.84 4,966.16

Interest expense (101.00) (104.00) (124.00) (109.00) (238.14) (246.47) (255.10) (264.03) (273.27)

Accumulated other comprehensive income (loss) 799.00 (465.00) (316.00) 396.00 - - - - -

Income from continuing operations before income taxes 17,259.00 19,651.00 24,150.00 27,193.00 31,534.14 35,443.28 39,084.68 42,133.80 45,932.34

Current provision for income taxes - federal & state 2,564.00 2,838.00 3,826.00 12,608.00 6,622.17 7,443.09 8,207.78 8,848.10 9,645.79

Current provision for income taxes - foreign 774.00 723.00 966.00 1,746.00 1,543.78 1,778.92 2,017.76 2,249.27 2,443.53

Total current provision for income taxes 3,338.00 3,561.00 4,792.00 14,354.00 8,165.95 9,222.01 10,225.55 11,097.36 12,089.33

Total deferred provision (benefit) for income taxes (7.00) (258.00) (120.00) 177.00 (102.92) (118.59) (134.52) (149.95) (162.90)

Provision for income taxes 3,331.00 3,303.00 4,672.00 14,531.00 8,063.03 9,103.41 10,091.03 10,947.41 11,926.42

Net income from continuing operations 13,928.00 16,348.00 19,478.00 12,662.00 23,471.11 26,339.86 28,993.65 31,186.38 34,005.92

Net income (loss) from discontinued operations 516.00 - - - - - - - -

Net income 14,136.00$ 16,348.00$ 19,478.00$ 12,662.00$ 23,471.11$ 26,339.86$ 28,993.65$ 31,186.38$ 34,005.92$

Basic EPS 20.78$ 23.78$ 28.18$ 18.22$ 33.94$ 38.24$ 42.25$ 45.60$ 49.88$

Year end shares outstanding 680.17 687.35 691.29 694.78 691.64 688.79 686.20 683.86 681.72

Alphabet Inc.

Balance Sheet

In MillionsFiscal Years Ending Dec. 31 2014 2015 2016 2017 2018E 2019E 2020E 2021E 2022 CV

Assets:

Current Assets:

Cash & cash equivalents 18,347.00$ 16,549.00$ 12,918.00$ 10,715.00$ 13,266.60$ 16,236.41$ 26,493.51$ 35,380.17$ 53,289.41$

Marketable securities 46,048.00 56,517.00 73,415.00 91,156.00 103,006.28 115,367.03 126,903.74 137,056.04 145,279.40

Total cash, cash equivalents, & marketable securities 64,395.00 73,066.00 86,333.00 101,871.00 116,272.88 131,603.44 153,397.24 172,436.20 198,568.81

Accounts receivable, gross 9,608.00 11,852.00 14,604.00 19,010.00 19,885.04 22,913.87 25,990.34 28,972.29 31,474.59

Allowance 225.00 296.00 467.00 674.00 550.46 575.80 663.50 752.58 838.93

Accounts receivable, net 9,383.00 11,556.00 14,137.00 18,336.00 19,334.58 22,338.07 25,326.84 28,219.70 30,635.66

Receivable under reverse repurchase agreements 875.00 450.00 - - - - - - -

Deferred income taxes, net 1,322.00 - - - - - - - -

Income taxes receivable, net 1,298.00 1,903.00 95.00 369.00 201.58 209.38 232.09 240.84 250.45

Inventories - - 268.00 749.00 643.24 741.22 840.73 937.19 1,018.14

Prepaid revenue share, expenses & other assets 3,412.00 3,139.00 4,575.00 2,983.00 3,750.47 4,575.57 5,399.18 6,263.05 7,202.50

Total current assets 80,685.00 90,114.00 105,408.00 124,308.00 140,202.75 159,467.68 185,196.08 208,096.99 237,675.57

Non-marketable investments 3,079.00 5,183.00 5,878.00 7,813.00 9,823.14 11,984.23 14,141.39 16,404.01 18,864.62

Prepaid revenue share, expenses & other assets, non-current 3,280.00 3,181.00 1,819.00 - - - - - -

Deferred income taxes - 251.00 383.00 680.00

Property & equipment, gross 32,746.00 40,146.00 47,527.00 59,647.00 70,439.61 81,709.94 94,783.53 109,001.06 122,081.19

Less: accumulated depreciation & amortization 8,863.00 11,130.00 13,293.00 17,264.00 24,892.94 33,091.34 41,842.69 51,372.04 61,745.26

Property & equipment, net 23,883.00 29,016.00 34,234.00 42,383.00 45,546.67 48,618.60 52,940.84 57,629.02 60,335.93

Intangible assets, net 4,607.00 3,847.00 3,307.00 2,692.00 1,934.96 1,390.81 999.69 718.56 516.48

Goodwill 15,599.00 15,869.00 16,468.00 16,747.00 16,747.00 16,747.00 16,747.00 16,747.00 16,747.00

Other non-current assets - - - 2,672.00 2,672.00 2,672.00 2,672.00 2,672.00 2,672.00

Total assets 131,133.00 147,461.00 167,497.00 197,295.00 216,926.51 240,880.33 272,697.01 302,267.58 336,811.60

Liabilities and Stockholders' Equity

Current Liabilities:

Accounts payable 1,715.00 1,931.00 2,041.00 3,137.00 3,225.77 3,317.06 3,410.92 3,507.44 3,606.70

Short-term debt 2,009.00 3,225.00 - - - - - 1,000.00 -

Accrued compensation & benefits 3,069.00 3,539.00 3,976.00 4,581.00 6,642.98 6,889.84 7,293.90 7,549.98 7,886.60

Accrued expenses & other current liabilities 4,434.00 4,768.00 6,144.00 10,177.00 5,521.40 834.33 946.35 1,054.92 1,146.04

Accrued revenue share 1,952.00 2,329.00 2,942.00 3,975.00 5,138.98 5,752.43 6,505.04 7,217.77 7,545.85

Securities lending payable 2,778.00 2,428.00 - - - - - - -

Deferred revenue 752.00 788.00 1,099.00 1,432.00 1,511.42 1,741.64 1,975.48 2,202.13 2,392.33

Income taxes payable, net 96.00 302.00 554.00 881.00 603.64 637.24 655.92 656.84 655.95

Total current liabilities 16,805.00 19,310.00 16,756.00 24,183.00 22,644.20 19,172.54 20,787.60 23,189.09 23,233.46

Long-term debt 3,228.00 1,995.00 3,935.00 3,969.00 4,107.92 4,251.69 4,400.50 4,554.52 4,713.93

Deferred revenue, non-current 104.00 151.00 202.00 340.00 283.83 278.66 276.57 286.28 239.23

Income taxes payable, net, non-current 3,407.00 3,663.00 4,677.00 12,812.00 9,917.52 11,197.20 12,411.96 8,210.56 8,348.50

Deferred income taxes 1,971.00 189.00 226.00 430.00 1,465.25 1,456.55 1,412.74 1,313.69 1,192.64

Other long-term liabilities 1,118.00 1,822.00 2,665.00 3,059.00 3,157.06 3,258.27 3,362.72 3,470.52 3,581.77

Total liabilities 26,633.00 27,130.00 28,461.00 44,793.00 41,575.78 39,614.91 42,652.09 41,024.65 41,309.53

Stockholders' Equity:

Class A & class B common stock, & class C capital stock & additional paid-in capital 28,767.00 32,982.00 36,307.00 40,247.00 43,064.29 46,078.79 49,304.31 52,755.61 56,448.50

Accumulated other comprehensive income (loss) 54.00 (3,748.00) (4,804.00) (992.00) (992.00) (992.00) (992.00) (992.00) (992.00)

Retained earnings 75,706.00 89,223.00 105,131.00 113,247.00 133,278.44 156,178.63 181,732.61 209,479.32 240,045.57

Total stockholders' equity 104,500.00 120,331.00 139,036.00 152,502.00 175,350.73 201,265.42 230,044.92 261,242.93 295,502.07

Total Liabilities and Stockholders' Equity 131,133.00$ 147,461.00$ 167,497.00$ 197,295.00$ 216,926.51$ 240,880.33$ 272,697.01$ 302,267.58$ 336,811.60$

Alphabet Inc.

Cash Flow Statement

In MillionsFiscal Years Ending Dec. 31 2015 2016 2017

Operating Activities:

Net income 16,348.00$ 19,478.00$ 12,662.00$

Depreciation & impairment of property & equipment 4,132.00 5,267.00 6,103.00

Amortization & impairment of intangible assets 931.00 877.00 812.00

Stock-based compensation expense 5,203.00 6,703.00 7,679.00

Excess tax benefits from stock-based award activities (548.00) - -

Deferred income taxes (179.00) (38.00) 258.00

Loss (gain) on divestiture of business - - -

Loss (gain) on equity interest - - -

Loss (gain) on sale of non-marketable equity investments - - -

Loss (gain) on marketable & non-marketable investments, net 334.00 275.00 194.00

Other adjustments 212.00 174.00 137.00

Changes in Assets and Liabilities:

Accounts receivable (2,094.00) (2,578.00) (3,768.00)

Income taxes, net (179.00) 3,125.00 8,211.00

Prepaid revenue share, expenses & other assets (318.00) 312.00 -

Other assets - - (2,164.00)

Accounts payable 203.00 110.00 731.00

Accrued expenses & other liabilities 1,597.00 1,515.00 4,891.00

Accrued revenue share 339.00 593.00 955.00

Deferred revenue 43.00 223.00 390.00

Net cash flows from operating activities 26,024.00 36,036.00 37,091.00

Investing Activities:

Purchases of property & equipment (9,915.00) (10,212.00) (13,184.00)

Proceeds from disposals of property & equipment - 240.00 99.00

Purchases of marketable securities (74,368.00) (84,509.00) (92,195.00)

Maturities & sales of marketable securities 62,905.00 66,895.00 73,959.00

Purchases of non-marketable investments (2,172.00) (1,109.00) (1,745.00)

Maturities & sales of non-marketable investments - 494.00 533.00

Cash collateral related to (from) securities lending (350.00) (2,428.00) -

Investments in reverse repurchase agreements 425.00 450.00 -

Acquisitions, net of cash acquired, & purchases of intangibles & other assets (236.00) (986.00) (287.00)

Proceeds from collection of notes receivable - - 1,419.00

Net cash flows from investing activities (23,711.00) (31,165.00) (31,401.00)

Financing Activities:

Net proceeds (payments) related to stock-based award activities (2,375.00) (3,304.00) (4,166.00)

Excess tax benefits from stock-based award activities 548.00 - -

Adjustment payment to class C capital stockholders (47.00) - -

Repurchases of capital stock (1,780.00) (3,693.00) (4,846.00)

Proceeds from issuance of debt, net of costs 13,705.00 8,729.00 4,291.00

Repayments of debt (13,728.00) (10,064.00) (4,377.00)

Proceeds from sale of subsidiary shares - - 800.00

Net cash flows from financing activities (3,677.00) (8,332.00) (8,298.00)

Effect of exchange rate changes on cash & cash equivalents (434.00) (170.00) 405.00

Net increase (decrease) in cash & cash equivalents (1,798.00) (3,631.00) (2,203.00)

Cash & cash equivalents at beginning of period 18,347.00 16,549.00 12,918.00

Cash & cash equivalents at end of period 16,549.00$ 12,918.00$ 10,715.00$

Alphabet Inc.Cash Flow StatementIn MillionsFiscal Years Ending Dec. 31  2018E   2019E   2020E   2021E   2022 CV 

Operating Activities:

Net income 23,471.11$   26,339.86$   28,993.65$   31,186.38$   34,005.92$  

Depreciation & impairment of property & equipment 7,628.94        8,198.40        8,751.35        9,529.35        10,373.22    

Amortization & impairment of intangible assets 757.04           544.15           391.12           281.13           202.07          

Changes in Assets and Liabilities:

Accounts receivable (998.58)          (3,003.49)      (2,988.76)      (2,892.87)      (2,415.96)     

Income Tax Receivable 167.42           (7.80)              (22.72)            (8.75)              (9.61)             

Inventories 105.76           (97.98)            (99.52)            (96.46)            (80.94)           

Accrued revenue share Liability 1,163.98        613.45           752.61           712.73           328.08          

Prepaid Revenue Share and Other Assets (767.47)          (825.10)          (823.60)          (863.87)          (939.46)         

Accounts payable 88.77             91.28             93.87             96.52             99.25            

Accrued expenses & other liabilities (4,655.60)      (4,687.07)      112.02           108.58           91.11            

Accrued Compensation 2,061.98        246.86           404.05           256.08           336.62          

Other Long Term Liabilities 98.06             101.21           104.45           107.80           111.25          

Deferred Revenue 79.42             230.22           233.84           226.65           190.20          

Deferred Taxes 1,715.25        (8.71)              (43.80)            (99.05)            (121.05)         

Income Taxes Payable, Non Current (2,894.48)      1,279.68        1,214.76        (4,201.40)      137.94          

Income Taxes Payable (277.36)          33.60             18.68             0.93                (0.89)             

Deferred Revenue, Non Current (56.17)            (5.17)              (2.10)              9.71                (47.04)           

Net cash flows from operating activities 27,688.09     29,043.38     37,089.90     34,353.46     42,260.71    

Investing Activities:

Purchases of property & equipment (10,792.61)    (11,270.34)    (13,073.59)    (14,217.53)    (13,080.13)   

Purchases of Non Marketable Investments (2,010.14)      (2,161.09)      (2,157.16)      (2,262.62)      (2,460.60)     

Purchases of marketable securities (11,850.28)    (12,360.75)    (11,536.70)    (10,152.30)    (8,223.36)     

Net cash flows from investing activities (24,653.02)    (25,792.18)    (26,767.46)    (26,632.45)    (23,764.09)   

Financing Activities:

Short Term Debt ‐                  ‐                  ‐                  1,000.00        (1,000.00)     

Long Term Debt 138.92           143.78           148.81           154.02           159.41          

Proceeds from Issuance of Common Stock 2,817.29        3,014.50        3,225.52        3,451.30        3,692.89       

Repurchases of Capital Stock (3,439.67)      (3,439.67)      (3,439.67)      (3,439.67)      (3,439.67)     

Net cash flows from financing activities (483.46)          (281.39)          (65.35)            1,165.65        (587.37)         

Net increase (decrease) in cash & cash equivalents 2,551.60        2,969.81        10,257.10     8,886.66        17,909.25    

Cash & cash equivalents at beginning of period 10,715.00     13,266.60     16,236.41     26,493.51     35,380.17    

Cash & cash equivalents at end of period 13,266.60$   16,236.41$   26,493.51$   35,380.17$   53,289.41$  

Alphabet Inc.

Common Size Income Statement

% of SalesFiscal Years Ending Dec. 31 2014 2015 2016 2017 2018E 2019E 2020E 2021E 2022 CV

Advertising revenues - Google websites 68.31% 69.82% 70.66% 70.17% 70.74% 71.22% 71.58% 71.92% 72.16%

Advertising revenues - Google Network Members'websites 21.17% 20.05% 17.28% 15.86% 15.04% 14.22% 13.54% 12.88% 12.45%

Google other revenues 10.52% 9.54% 11.17% 12.88% 13.10% 13.41% 13.71% 14.03% 14.20%

Other Bets revenues - 0.60% 0.90% 1.09% 1.12% 1.15% 1.17% 1.18% 1.20%

Total Revenues 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00%

Cost of revenues 31.38% 28.32% 23.59% 19.26% 35.00% 35.00% 35.00% 35.00% 35.00%

Depreciation 5.34% 5.51% 5.83% 5.51% 5.93% 5.53% 5.20% 5.08% 5.09%

Amortization 2.21% 1.24% 0.97% 0.73% 0.59% 0.37% 0.23% 0.15% 0.10%

Gross Profit 63.28% 66.17% 70.58% 75.23% 59.07% 59.47% 59.80% 59.92% 59.91%

Research & development expenses 14.90% 16.38% 15.45% 15.00% 17.00% 18.00% 19.00% 20.00% 20.00%

Sales & marketing expenses 12.32% 12.06% 11.61% 11.63% 11.91% 11.91% 11.91% 11.91% 11.91%

General & administrative expenses 8.87% 8.18% 7.74% 6.20% 7.75% 7.75% 7.75% 7.75% 7.75%

European Comission fine - - - 2.47% - - - - -

Total costs & expenses 75.01% 74.18% 73.73% 76.41% 77.58% 78.18% 78.86% 79.74% 79.75%

Income from operations 24.99% 25.82% 26.27% 23.59% 22.42% 21.82% 21.14% 20.26% 20.25%

Interest income 1.13% 1.33% 1.35% 1.18% 2.28% 2.26% 2.25% 2.36% 2.44%

Interest expense 0.15% 0.14% 0.14% 0.10% -0.19% -0.17% -0.15% -0.14% -0.13%

Accumulated Other comprehensive Income (Loss) 1.21% -0.62% -0.35% 0.36% - - - - -

Income from continuing operations before income taxes 26.15% 26.21% 26.75% 24.53% 24.51% 23.91% 23.24% 22.48% 22.56%

Current Provision for Income Taxes- Federal and State 3.88% 3.78% 4.24% 11.37% 5.15% 5.02% 4.88% 4.72% 4.74%

Current Provision for Income Taxes- Foreign 1.17% 0.96% 1.07% 1.58% 1.20% 1.20% 1.20% 1.20% 1.20%

Total current provision for income taxes 5.06% 4.75% 5.31% 12.95% 6.35% 6.22% 6.08% 5.92% 5.94%

Total deferred provision (benefit) for income taxes -0.01% -0.34% -0.13% 0.16% -0.08% -0.08% -0.08% -0.08% -0.08%

Provision for income taxes 5.05% 4.40% 5.18% 13.11% 6.27% 6.14% 6.00% 5.84% 5.86%

Net income from continuing operations 21.10% 21.80% 21.58% 11.42% 18.24% 17.77% 17.24% 16.64% 16.70%

Net income (loss) from discontinued operations 0.78% - - - - - - - -

Net income 21.88% 21.80% 21.58% 11.42% 18.24% 17.77% 17.24% 16.64% 16.70%

Alphabet Inc.

Common Size Balance Sheet

% of Sales

Fiscal Years Ending Dec. 31 2015 2016 2017 2018E 2019E 2020E 2021E 2022 CV

Assets

Current Assets:

Cash & cash equivalents 22.07% 14.31% 9.67% 10.31% 10.95% 15.76% 18.88% 26.17%

Marketable securities 75.37% 81.33% 82.23% 80.07% 77.82% 75.47% 73.12% 71.35%

Total cash, cash equivalents, & marketable securities 97.44% 95.64% 91.90% 90.38% 88.78% 91.23% 92.00% 97.52%

Accounts receivable, gross 15.80% 16.18% 17.15% 15.46% 15.46% 15.46% 15.46% 15.46%

Allowance 0.39% 0.52% 0.61% 0.43% 0.39% 0.39% 0.40% 0.41%

Accounts receivable, net 15.41% 15.66% 16.54% 15.03% 15.07% 15.06% 15.06% 15.04%

Receivable under reverse repurchase agreements 0.60% - - - - - - -

Deferred income taxes, net - - - - - - - -

Income taxes receivable, net 2.54% 0.11% 0.33% 0.16% 0.14% 0.14% 0.13% 0.12%

Inventories - 0.30% 0.68% 0.50% 0.50% 0.50% 0.50% 0.50%

Prepaid revenue share, expenses & other assets 4.19% 5.07% 2.69% 2.92% 3.09% 3.21% 3.34% 3.54%

Total current assets 120.17% 116.77% 112.14% 108.98% 107.57% 110.14% 111.02% 116.72%

Non-marketable investments 6.91% 6.51% 7.05% 7.64% 8.08% 8.41% 8.75% 9.26%

Prepaid revenue share, expenses & other assets, non-current 4.24% 2.02% - - - - - -

Property & equipment, gross 53.54% 52.65% 53.81% 54.75% 55.12% 56.37% 58.15% 59.95%

Less: accumulated depreciation & amortization 14.84% 14.73% 15.57% 19.35% 22.32% 24.88% 27.41% 30.32%

Property & equipment, net 38.69% 37.92% 38.23% 35.40% 32.80% 31.48% 30.75% 29.63%

Intangible assets, net 5.13% 3.66% 2.43% 1.50% 0.94% 0.59% 0.38% 0.25%

Goodwill 21.16% 18.24% 15.11% 13.02% 11.30% 9.96% 8.93% 8.22%

Other non-current assets - - 2.41% 2.08% 1.80% 1.59% 1.43% 1.31%

Total assets 196.64% 185.55% 177.98% 168.62% 162.49% 162.18% 161.26% 165.41%

Liabilities and Stockholders' Equity

Current Liabilities:

Accounts payable 2.58% 2.26% 2.83% 2.51% 2.24% 2.03% 1.87% 1.77%

Short-term debt 4.30% - - - - - 0.53% -

Accrued compensation & benefits 4.72% 4.40% 4.13% 5.16% 4.65% 4.34% 4.03% 3.87%

Accrued expenses & other current liabilities 6.36% 6.81% 9.18% 4.29% 0.56% 0.56% 0.56% 0.56%

Accrued revenue share 3.11% 3.26% 3.59% 3.99% 3.88% 3.87% 3.85% 3.71%

Securities lending payable 3.24% - - - - - - -

Deferred revenue 1.05% 1.22% 1.29% 1.17% 1.17% 1.17% 1.17% 1.17%

Income taxes payable, net 0.40% 0.61% 0.79% 0.47% 0.43% 0.39% 0.35% 0.32%

Total current liabilities 25.75% 18.56% 21.81% 17.60% 12.93% 12.36% 12.37% 11.41%

Long-term debt 2.66% 4.36% 3.58% 3.19% 2.87% 2.62% 2.43% 2.31%

Deferred revenue, non-current 0.20% 0.22% 0.31% 0.22% 0.19% 0.16% 0.15% 0.12%

Income taxes payable, net, non-current 4.88% 5.18% 11.56% 7.71% 7.55% 7.38% 4.38% 4.10%

Deferred income taxes 0.25% 0.25% 0.39% 1.14% 0.98% 0.84% 0.70% 0.59%

Other long-term liabilities 2.43% 2.95% 2.76% 2.45% 2.20% 2.00% 1.85% 1.76%

Total liabilities 36.18% 31.53% 40.41% 32.32% 26.72% 25.37% 21.89% 20.29%

Stockholders' Equity:

Class A & class B common stock, & class C capital stock & additional paid-in capital 43.98% 40.22% 36.31% 33.47% 31.08% 29.32% 28.15% 27.72%

Accumulated other comprehensive income (loss) -5.00% -5.32% -1.79% -0.77% -0.67% -0.59% -0.53% -0.49%

Retained earnings 118.98% 116.46% 102.16% 103.60% 105.35% 108.08% 111.76% 117.88%

Total stockholders' equity 160.46% 154.02% 137.57% 136.30% 135.77% 136.81% 139.37% 145.12%

Total Liabilities and Stockholder's Equity 196.64% 185.55% 177.98% 168.62% 162.49% 162.18% 161.26% 165.41%

Alphabet Inc.

Common Size Balance Sheet

% of Assets

Fiscal Years Ending Dec. 31 2015 2016 2017 2018E 2019E 2020E 2021E 2022 CV

Assets

Current Assets:

Cash & cash equivalents 11.22% 7.71% 5.43% 6.12% 6.74% 9.72% 11.70% 15.82%

Marketable securities 38.33% 43.83% 46.20% 47.48% 47.89% 46.54% 45.34% 43.13%

Total cash, cash equivalents, & marketable securities 49.55% 51.54% 51.63% 53.60% 54.63% 56.25% 57.05% 58.96%

Accounts receivable, gross 8.04% 8.72% 9.64% 9.17% 9.51% 9.53% 9.58% 9.34%

Allowance 0.20% 0.28% 0.34% 0.25% 0.24% 0.24% 0.25% 0.25%

Accounts receivable, net 7.84% 8.44% 9.29% 8.91% 9.27% 9.29% 9.34% 9.10%

Receivable under reverse repurchase agreements 0.31% - - - - - - -

Deferred income taxes, net - - - - - - - -

Income taxes receivable, net 1.29% 0.06% 0.19% 0.09% 0.09% 0.09% 0.08% 0.07%

Inventories - 0.16% 0.38% 0.30% 0.31% 0.31% 0.31% 0.30%

Prepaid revenue share, expenses & other assets 2.13% 2.73% 1.51% 1.73% 1.90% 1.98% 2.07% 2.14%

Total current assets 61.11% 62.93% 63.01% 64.63% 66.20% 67.91% 68.85% 70.57%

Non-marketable investments 3.51% 3.51% 3.96% 4.53% 4.98% 5.19% 5.43% 5.60%

Prepaid revenue share, expenses & other assets, non-current 2.16% 1.09% - - - - - -

Property & equipment, gross 27.22% 28.37% 30.23% 32.47% 33.92% 34.76% 36.06% 36.25%

Less: accumulated depreciation & amortization 7.55% 7.94% 8.75% 11.48% 13.74% 15.34% 17.00% 18.33%

Property & equipment, net 19.68% 20.44% 21.48% 21.00% 20.18% 19.41% 19.07% 17.91%

Intangible assets, net 2.61% 1.97% 1.36% 0.89% 0.58% 0.37% 0.24% 0.15%

Goodwill 10.76% 9.83% 8.49% 7.72% 6.95% 6.14% 5.54% 4.97%

Other non-current assets - - 1.35% 1.23% 1.11% 0.98% 0.88% 0.79%

Total assets 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00%

Liabilities and Stockholders' Equity

Current Liabilities:

Accounts payable 1.31% 1.22% 1.59% 1.49% 1.38% 1.25% 1.16% 1.07%

Short-term debt 2.19% - - - - - 0.33% -

Accrued compensation & benefits 2.40% 2.37% 2.32% 3.06% 2.86% 2.67% 2.50% 2.34%

Accrued expenses & other current liabilities 3.23% 3.67% 5.16% 2.55% 0.35% 0.35% 0.35% 0.34%

Accrued revenue share 1.58% 1.76% 2.01% 2.37% 2.39% 2.39% 2.39% 2.24%

Securities lending payable 1.65% - - - - - - -

Deferred revenue 0.53% 0.66% 0.73% 0.70% 0.72% 0.72% 0.73% 0.71%

Income taxes payable, net 0.20% 0.33% 0.45% 0.28% 0.26% 0.24% 0.22% 0.19%

Total current liabilities: 13.09% 10.00% 12.26% 10.44% 7.96% 7.62% 7.67% 6.90%

Long-term debt 1.35% 2.35% 2.01% 1.89% 1.77% 1.61% 1.51% 1.40%

Deferred revenue, non-current 0.10% 0.12% 0.17% 0.13% 0.12% 0.10% 0.09% 0.07%

Income taxes payable, net, non-current 2.48% 2.79% 6.49% 4.57% 4.65% 4.55% 2.72% 2.48%

Deferred income taxes 0.13% 0.13% 0.22% 0.68% 0.60% 0.52% 0.43% 0.35%

Other long-term liabilities 1.24% 1.59% 1.55% 1.46% 1.35% 1.23% 1.15% 1.06%

Total liabilities 18.40% 16.99% 22.70% 19.17% 16.45% 15.64% 13.57% 12.26%

Stockholders' Equity:

Class A & class B common stock, & class C capital stock & additional paid-in capital 22.37% 21.68% 20.40% 19.85% 19.13% 18.08% 17.45% 16.76%

Accumulated other comprehensive income (loss) -1.27% -1.43% -0.50% -0.46% -0.41% -0.36% -0.33% -0.29%

Retained earnings 60.51% 62.77% 57.40% 61.44% 64.84% 66.64% 69.30% 71.27%

Total stockholders' equity 81.60% 83.01% 77.30% 80.83% 83.55% 84.36% 86.43% 87.74%

Total Liabilities and Stockholder's Equity 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00%

Alphabet Inc.

Value Driver Estimation

In Millions

Fiscal Years Ending Dec. 31 2014 2015 2016 2017 2018E 2019E 2020E 2021E 2022 CV

NOPLAT

EBITA:

Revenue 66,001.00 74,989.00 90,272.00 110,855.00 128,648.12 148,243.43 168,146.92 187,438.92 203,627.83

Cost of Revenues 20,712.00 23,101.00 28,994.00 38,668.00 45,026.84 51,885.20 58,851.42 65,603.62 71,269.74

Research and Development 9,832.00 12,282.00 13,948.00 16,625.00 21,870.18 26,683.82 31,947.92 37,487.78 40,725.57

Sales and Marketing Expenses 8,131.00 9,047.00 10,485.00 12,893.00 15,318.57 17,651.85 20,021.82 22,318.99 24,246.65

General and Administrative Expenses 5,851.00 6,136.00 6,985.00 6,872.00 9,965.20 11,483.07 13,024.81 14,519.19 15,773.20

Interest on PV of Operating Lease 171.01 205.44 222.26 248.44 248.44 295.06 314.96 342.96 373.33

EBITA 21,646.01 24,628.44 30,082.26 36,045.44 36,715.77 40,834.55 44,615.91 47,852.30 51,986.00

Adjusted Taxes:

Provision for Income Tax 3,331.00 3,303.00 4,672.00 14,531.00 8,063.03 9,103.41 10,091.03 10,947.41 11,926.42

Tax on PV of Operating Leases 59.85 71.90 77.79 86.95 86.95 103.27 110.24 120.04 130.67

Tax on Interest Income (261.10) (349.65) (427.00) (459.20) (1,026.86) (1,172.03) (1,326.56) (1,546.24) (1,738.16)

Interest Tax Shield (35.35) (36.40) (43.40) (38.15) (83.35) (86.27) (89.29) (92.41) (95.64)

Amortization (1,456.00) (931.00) (877.00) (812.00) (757.04) (544.15) (391.12) (281.13) (202.07)

European Commission Fine - - - 957.60 - - - - -

Less Adjusted Taxes: 1,638.40 2,057.85 3,402.39 14,266.20 6,282.73 7,404.24 8,394.29 9,147.66 10,021.21

Change in Deferred Taxes:

End DTL - End DTA 649.00 (62.00) (157.00) (250.00) 1,465.25 1,456.55 1,412.74 1,313.69 1,192.64

Beg. DTL - Beg. DTA 421.00 649.00 189.00 226.00 430.00 1,465.25 1,456.55 1,412.74 1,313.69

Plus Change in Deferred Taxes 228.00 (711.00) (346.00) (476.00) 1,035.25 (8.71) (43.80) (99.05) (121.05)

NOPLAT: 20,235.60 21,859.59 26,333.87 21,303.24 31,468.30 33,421.60 36,177.81 38,605.58 41,843.74

Invested Capital

Normal Cash (5% of Sales) 3,300.05 3,749.45 4,513.60 5,542.75 6,432.41 7,412.17 8,407.35 9,371.95 10,181.39

Accounts Recievable 9,383.00 11,556.00 14,137.00 18,336.00 19,334.58 22,338.07 25,326.84 28,219.70 30,635.66

Inventory - - 268.00 749.00 643.24 741.22 840.73 937.19 1,018.14

Income Tax Recievable 1,298.00 1,903.00 95.00 369.00 201.58 209.38 232.09 240.84 250.45

Prepaid Expenses 3,412.00 3,139.00 4,575.00 2,983.00 3,750.47 4,575.57 5,399.18 6,263.05 7,202.50

Operating CA 17,393.05 20,347.45 23,588.60 27,979.75 30,362.27 35,276.41 40,206.19 45,032.73 49,288.15

Accounts Payable 1,715.00 1,931.00 2,041.00 3,137.00 3,225.77 3,317.06 3,410.92 3,507.44 3,606.70

Accrued Expenses 4,434.00 4,768.00 6,144.00 10,177.00 5,521.40 834.33 946.35 1,054.92 1,146.04

Accrued Compensation 3,069.00 3,539.00 3,976.00 3,975.00 5,138.98 5,752.43 6,505.04 7,217.77 7,545.85

Accrued Revenue Share 1,952.00 2,329.00 2,942.00 3,975.00 5,138.98 5,752.43 6,505.04 7,217.77 7,545.85

Deferred Revenue 752.00 788.00 1,099.00 1,432.00 1,511.42 1,741.64 1,975.48 2,202.13 2,392.33 Income Tax Payable 96.00 302.00 554.00 881.00 603.64 637.24 655.92 656.84 655.95

Non-Interest CL 12,018.00 13,657.00 16,756.00 24,183.00 22,644.20 19,172.54 20,787.60 23,189.09 23,233.46

Other LT Operating Assets:

Net PP&E 23,883.00 29,016.00 34,234.00 42,383.00 45,546.67 48,618.60 52,940.84 57,629.02 60,335.93

Prepaid Revenue 3,280.00 3,181.00 1,819.00 - - - - - -

Intangible Assets 4,607.00 3,847.00 3,307.00 2,692.00 1,934.96 1,390.81 999.69 718.56 516.48

PV of Operating Lease 5,166.36 6,206.63 6,714.85 7,505.82 8,914.16 9,515.38 10,361.31 11,278.86 11,808.64

Total Other LT Operating Assets 36,936.36 42,250.63 46,074.85 52,580.82 56,395.78 59,524.79 64,301.84 69,626.43 72,661.05

Other LT Operating Liabilities:

Deferred Revenue 104.00 151.00 202.00 340.00 283.83 278.66 276.57 286.28 239.23

Income Taxes Payable 3,407.00 3,663.00 4,677.00 12,812.00 9,917.52 11,197.20 12,411.96 8,210.56 8,348.50

Other Long-Term Liabilities 1,118.00 1,822.00 2,665.00 3,059.00 3,157.06 3,258.27 3,362.72 3,470.52 3,581.77

Total Other LT Operating Liabilities 4,629.00 5,636.00 7,544.00 16,211.00 13,358.41 14,734.13 16,051.25 11,967.35 12,169.50

Invested Capital: 37,682.41 43,305.08 45,363.45 40,166.57 50,755.44 60,894.54 67,669.18 79,502.72 86,546.24

Economic Profit

NOPLAT 20,235.60 21,859.59 26,333.87 21,303.24 31,468.30 33,421.60 36,177.81 38,605.58 41,843.74

Less: Change in IC 9,111.41 5,622.67 2,058.36 (5,196.88) 10,588.87 10,139.10 6,774.64 11,833.54 7,043.52

FCF 11,124.19$ 16,236.92$ 24,275.51$ 26,500.11$ 20,879.43$ 23,282.50$ 29,403.17$ 26,772.04$ 34,800.22$

NOPLAT 20,235.60 21,859.59 26,333.87 21,303.24 31,468.30 33,421.60 36,177.81 38,605.58 41,843.74

Beginning IC 28,471.00 37,682.41 43,305.08 45,363.45 40,166.57 50,755.44 60,894.54 67,669.18 79,502.72

ROIC 71.07% 58.01% 60.81% 46.96% 78.34% 65.85% 59.41% 57.05% 52.63%

IC 28,471.00 37,682.41 43,305.08 45,363.45 40,166.57 50,755.44 60,894.54 67,669.18 79,502.72

Multiplied by: (ROIC-WACC) 61.94% 48.88% 51.68% 37.83% 69.21% 56.72% 50.28% 47.92% 43.50%

EP 17,636.05 18,418.98 22,379.88 17,161.31 27,800.87 28,787.36 30,617.81 32,427.02 34,584.71

Risk Free rate 3.03%

Equity Risk Premium 4.96%

Beta 1.25

Cost of Equity 9.23%

Pre Tax Cost of Debt 3.31%

Marginal Tax Rate 21.00%

After Tax Cost of Debt 2.61%

Total Shares outstanding 694.78

Share Price 1,081.98

Value of Equity 751,741.31$

Long Term Debt 3,969.00

PV of Operating Leases 7,505.82

Value of Debt 11,474.82$

Total Value of Capital 763,216.13$

Weight of Equity 98.50%

Weight of Debt 1.50%

Weighted Cost of Equity 9.09%

Weighted Cost of Debt 0.04%

Weighted Average Cost of Capital 9.13%

Cost of Capital

Weight of Capital

Alphabet Inc.

Weighted Average Cost of Capital (WACC) Estimation

Alphabet Inc.

Discounted Cash Flow (DCF) and Economic Profit (EP) Valuation Models

Key Inputs:

CV Growth 4.50%

CV ROIC 52.63%

WACC 9.13%

Cost of Equity 9.23%

Fiscal Years Ending Dec. 31 2018E 2019E 2020E 2021E 2022CV

DCF Model

NOPLAT 31,468.30 33,421.60 36,177.81 38,605.58 41,843.74

Less: CapEx 10,588.87 10,139.10 6,774.64 11,833.54 7,043.52

Free Cash Flows 20,879.43 23,282.50 29,403.17 26,772.04 34,800.22

Continuing Value 826,385.08

Discount Factor 1.09 1.19 1.30 1.42 1.42

Present Value of FCF 19,132.52 19,549.56 22,623.26 18,875.40 582,635.85

Total PV 662,816.59

Plus Value of Non Operating Assets

Excess Cash 11,085.50

Non-Marketable Securities 7,813.00

Marketable Securities 91,156.00

Value of Non-Operating Assets 110,054.50

Less: Value of Non-Operating Liabilities

Long Term Debt (3,969.00)

PV of Operating Leases (7,505.82)

Value of Non Operating Liabilities (11,474.82)

Value of Equity 761,396.27

Shares Outstanding 695

Intrinsic Value 1,095.88

Partial Year Adjustment Value 1,124.34$

EP Model 2018E 2019E 2020E 2021E 2022CV

Economic Profit 27,800.87 28,787.36 30,617.81 32,427.02 34,584.71

Continuing Value 746,882.35

Discount Factor 25,474.87 24,171.81 23,557.82 22,862.39 526,583.12

Total PV 622,650.02

Beginning IC 40,166.57

Value of Operating Assets 662,816.59

Plus Value of Non Operating Assets

Excess Cash 11,085.50$

Non-Marketable Investments 7,813.00

Marketable Securities 91,156.00

Value of Non-Operating Assets 110,054.50$

Value of Non-Operating Liabilities

Long-Term Debt (3,969.00)

PV Operating Leases (7,505.82)

Value of Non-Operating Liabilities (11,474.82)

Value of Equity 761,396.27

Shares outstanding 694.78

Intrnisic Value 1,095.88

Partial Year Adjustment Value 1,124.34$

Alphabet Inc.

Dividend Discount Model (DDM) or Fundamental P/E Valuation ModelFiscal Years Ending 2018E 2019E 2020E 2021E 2022CV

EPS 33.94 38.24 42.25 45.60 49.88

Key Assumptions CV growth 4.50%

CV ROE 11.51%

Cost of Equity 9.23%

Future Cash Flows P/E Multiple (CV Year) 12.87

EPS (CV Year) 49.88

Future Stock Price 642.21

Dividends Per Share 0 0 0 0 0

Future Cash Flows 0 0 0 642.21

Discounted Cash Flows - - - 492.78

Intrinsic Value $492.78

Partial Year Adjustment $505.58

Alphabet Inc.

Relative Valuation Models

EPS EPS Est. 5yr

Ticker Company Price 2018E 2019E P/E 18 P/E 19 EPS gr. PEG 18 PEG 19

AAPL Apple Inc. $167.78 $11.37 $12.51 14.76 13.41 13.2 1.12 1.01 FB Facebook, Inc. $159.79 $7.19 $9.07 22.22 17.62 26.9 0.83 0.65 MSFT Microsoft Corporation $91.27 $3.65 $3.91 25.01 23.34 11.1 2.26 2.11 INTC Intel Corporation $52.08 $3.54 $3.79 14.71 13.74 9.0 1.63 1.52 DVMT Dell Technologies Inc. $73.21 $5.46 $5.76 13.41 12.71 17.0 0.79 0.75

Average 18.02 16.16 Average 1.32 1.21

GOOGL Alphabet Inc. $1,081.98 $33.94 $38.24 31.9 28.3 24.6 1.3 1.2

Implied Relative Value:

P/E (EPS18) 611.56$

P/E (EPS19) 618.15$

PEG (EPS18) 1,103.67$

PEG (EPS19) 1,136.27$

Alphabet Inc.

Key Management RatiosFiscal Years Ending 2014 2015 2016 2017 2018E 2019E 2020E 2021E 2022 CV

Liquidity RatiosCurrent Ratio 4.80 4.67 6.29 5.14 6.19 8.32 8.91 8.97 10.23

Quick Ratio 4.39 4.38 6.00 4.97 5.99 8.03 8.60 8.65 9.87

Cash Ratio 3.83 3.78 5.15 4.21 5.13 6.86 7.38 7.44 8.55

Activity or Asset-Management RatiosInventory Turnover 0.00 0.00 0.00 60.18 42.06 51.18 50.66 50.10 49.28

Recievables Turnover 4.77 4.03 3.87 3.96 4.22 4.24 4.26 4.31 4.35

Payables Turnover 9.94 12.67 14.60 14.94 14.15 15.86 17.49 18.97 20.04

Asset Turnover 0.55 0.54 0.57 0.61 0.62 0.65 0.65 0.65 0.64

Financial Leverage RatiosDebt to Assets Ratio 20.31% 18.40% 16.99% 22.70% 19.17% 16.45% 15.64% 13.57% 12.26%

Debt to Capital Ratio 4.77% 4.16% 2.75% 2.54% 2.29% 2.07% 1.88% 2.08% 1.57%

Debt to Equity Ratio 25.49% 22.55% 20.47% 29.37% 23.71% 19.68% 18.54% 15.70% 13.98%

Profitability RatiosGross Profit Margin 63.28% 63.68% 62.05% 59.61% 59.07% 59.47% 59.80% 59.92% 59.91%

Operating Profit Margin 39.50% 40.54% 42.34% 39.56% 37.95% 36.68% 35.36% 33.82% 33.81%

Net Profit Margin 33.85% 34.23% 34.78% 19.16% 30.89% 29.88% 28.84% 27.77% 27.88%

Return on Assets 10.78% 11.09% 11.63% 6.42% 10.82% 10.93% 10.63% 10.32% 10.10%

Return on Equity 13.53% 13.59% 14.01% 8.30% 13.39% 13.09% 12.60% 11.94% 11.51%

Payout Policy RatiosDividend Payour 0% 0% 0% 0% 0.00% 0.00% 0.00% 0.00% 0.00%

Total Payout Ratio

Present Value of Operating Lease Obligations (2017) Present Value of Operating Lease Obligations (2016) Present Value of Operating Lease Obligations (2015) Present Value of Operating Lease Obligations (2014) Present Value of Operating Lease Obligations (2013)

Operating Operating Operating Operating Operating

Fiscal Years Ending Dec. 31 Leases Fiscal Years Ending Dec. 31 Leases Fiscal Years Ending Leases Fiscal Years Ending Leases Fiscal Years Ending Leases

2017 1160 2016 828 2016 646 2015 598 2014 499

2018 1120 2017 896 2017 781 2016 622 2015 477

2019 1062 2018 905 2018 792 2017 634 2016 438

2020 968 2019 850 2019 766 2018 596 2017 418

2021 828 2020 765 2020 716 2019 576 2018 370

Thereafter 3615 Thereafter 3693 Thereafter 3705 Thereafter 3157 Thereafter 1836

Total Minimum Payments 8753 Total Minimum Payments 7937 Total Minimum Payments 7406 Total Minimum Payments 6183 Total Minimum Payments 4038

Less: Interest 1247 Less: Interest 1222 Less: Interest 1199 Less: Interest 1017 Less: Interest 612

PV of Minimum Payments 7506 PV of Minimum Payments 6715 PV of Minimum Payments 6207 PV of Minimum Payments 5166 PV of Minimum Payments 3426

Capitalization of Operating Leases Capitalization of Operating Leases Capitalization of Operating Leases Capitalization of Operating Leases Capitalization of Operating Leases

Pre-Tax Cost of Debt 3.31% Pre-Tax Cost of Debt 3.31% Pre-Tax Cost of Debt 3.31% Pre-Tax Cost of Debt 3.31% Pre-Tax Cost of Debt 3.31%

Number Years Implied by Year 6 Payment 4.4 Number Years Implied by Year 6 Payment 4.8 Number Years Implied by Year 6 Payment 5.2 Number Years Implied by Year 6 Payment 5.5 Number Years Implied by Year 6 Payment 5.0

Lease PV Lease Lease PV Lease Lease PV Lease Lease PV Lease Lease PV Lease

Year Commitment Payment Year Commitment Payment Year Commitment Payment Year Commitment Payment Year Commitment Payment

1 1160 1122.8 1 828 801.5 1 646 625.3 1 598 578.8 1 499 483.0

2 1120 1049.4 2 896 839.5 2 781 731.8 2 622 582.8 2 477 446.9

3 1062 963.2 3 905 820.8 3 792 718.3 3 634 575.0 3 438 397.2

4 968 849.8 4 850 746.2 4 766 672.4 4 596 523.2 4 418 366.9

5 828 703.6 5 765 650.1 5 716 608.4 5 576 489.5 5 370 314.4

6 & beyond 828 2817.1 6 & beyond 765 2856.9 6 & beyond 716 2850.4 6 & beyond 576 2417.1 6 & beyond 370 1417.3

PV of Minimum Payments 7505.8 PV of Minimum Payments 6714.8 PV of Minimum Payments 6206.6 PV of Minimum Payments 5166.4 PV of Minimum Payments 3425.8

Effects of ESOP Exercise and Share Repurchases on Common Stock Balance Sheet Account and Number of Shares Outstanding

Number of Options Outstanding (shares): 0

Average Time to Maturity (years): 0.00

Expected Annual Number of Options Exercised: 0

Current Average Strike Price: $-00

Cost of Equity: 9.23%

Current Stock Price: $1,081.98

2018E 2019E 2020E 2021E 2022 CV

Increase in Shares Outstanding: 0 0 0 0 0

Average Strike Price: $-00 $-00 $-00 $-00 $-00

Increase in Common Stock Account: -00 -00 -00 -00 -00

Change in Treasury Stock 3,439,670,000.00$ 3,439,670,000.00$ 3,439,670,000.00$ 3,439,670,000.00$ 3,439,670,000.00$

Expected Price of Repurchased Shares: $1,081.98 $1,181.85 $1,290.93 $1,410.08 $1,540.23

Number of Shares Repurchased: 3,179,051 2,910,420 2,664,487 2,439,337 2,233,211

Shares Outstanding (beginning of the year) 694,780,000.00 691,600,949 688,690,529 686,026,042 683,586,705

Plus: Shares Issued Through ESOP 0 0 0 0 0

Less: Shares Repurchased in Treasury 3,179,051 2,910,420 2,664,487 2,439,337 2,233,211

Shares Outstanding (end of the year) 691,600,949 688,690,529 686,026,042 683,586,705 681,353,494