Summary: This analysis answers the following questions:
- Search is a large driver of revenue and doesn’t require data but what other portions of Alphabet’s advertising model will be affected by the GDPR?
- How much revenue do the higher risk methods currently contribute to earnings?
- Where is Alphabet most likely to incur GDPR fines?
- How will non-personalized ads affect earnings and network sites?
Alphabet (GOOG) was announced in 2015 as a holding company to help separate Google’s advertising business from the sprawling investments in Fiber internet, cloud computing, smart home products and connected car products. While these new gadgets and the promise of AI have helped successfully rebrand Google’s search and advertising business, it’s important to remember that Alphabet is still an old-fashioned advertising company with nearly 90% of Q1 2018 revenue, or $26.6 billion, coming from advertising and only 15%, or $4.6 billion, coming from these other ambitions.
Therefore, understanding the nuances of advertising especially as it relates to data regulations is going to be key for any savvy Alphabet investor. While you can invest in Alphabet for AI or connected cars, we are in the beginning of the hype cycle for these technologies, whereas the current stock price reflects advertising. Unfortunately, top-rated analysts struggle to understand Alphabet’s business model as it relates to the GDPR and CEO Sundar Pichai did not offer any answers. In the Q1 2018 earnings call, Mark Mahaney of RBC Capital Markets asked if the “GDPR or other regulation is likely to impact materially the targeting capabilities that advertisers have on Google?” The CEO replied:
“You know, above everything else as we are working through GDPR we are making sure we are focused on getting that user experience right for our users and our partners. But to clarify your question further, you know, first of all, it’s important to understand that most of our ad business is Search, where we rely on very limited information, essentially what is in the keywords to show a relevant ad or product. And so, you know, we’ve been preparing this for 18 months and I think I think, you know, we have focused on getting the compliance right. It will be a years’ long effort and, you know, we are helping not just us, but our publishers and partners. But overall, we think we’ll be able to do all that, you know, with a positive impact for users and publishers and advertisers, and so our business.”
This answer was over-simplified at best. Yes, Search is a large driver of revenue but what are the other portions of the advertising machine which will be affected? And how much revenue do the higher risk methods currently contribute to earnings?
In addition, while Alphabet has been preparing for 18 months, they recently dropped new terms and conditions on publishers only 8 weeks before the GDPR took effect – and publishers are not happy about it.
Publishers are essential for quite a few elements to the Alphabet’s advertising machine as they provide additional surface area for ad space. By installing Google’s ad software onto websites and applications, publishers allow Google to advertise on their sites.
Most importantly, because this relates to ad revenue from networks outside of Google-owned properties, this portion of revenue is what holds the highest risk in this new era of data regulations – and the revenue is sizeable enough to lead to missed earnings in the future.
Alphabet & Data Regulations: The Good, The Bad and The Ugly
The Good: Search Doesn’t Need Data; Gmail, Chrome and Google Maps Have User Consent
Quite a few of Google’s data-driven applications and services such as Gmail, Chrome and Google Maps can easily obtain user permission in exchange for the services these applications and browser provides. In addition, Google AdWords, which is based off search intent, will provide a safe haven Google’s advertising revenue as this does not require the company to harvest private data. However, even search is not immune as it’s been enriched with data such as location to enhance search results.
The Bad: Android OS Collects Surveillance-Level Data without User Consent
In one study of 850,000 internet users last year, mainly in the U.S. and Europe, Google tracked 64% of all pages loaded by mobile and web browsers
It’s hard to know where to start when looking at Google’s sprawl of potential data regulation issues. We could start with the fact they have a deal with data brokers that gives them access to 70% of our purchases made with credit cards and debit cards (without consent). The company is literally in your bank account. This is for the purpose of letting advertisers know if you completed a sale following an ad seen on one of Google’s properties. Another place to start is implicit data for advertising purposes, which uses your search history to target ads to you outside of Google search. This is why when you privately email your friend about a trip to Rome, you mysteriously get advertisements for flights to Rome on other websites.
