Business Context and Reporting Period
This Form 10-Q covers Google Inc. for the quarterly period ended September 30, 2015. During this period, Google announced and implemented a legal reorganization on October 2, 2015, creating Alphabet Inc. as the new public holding company, with Google becoming a wholly-owned subsidiary. The financial results presented are for Google Inc. prior to the reorganization. The company operates primarily as a single segment focused on online advertising, with discontinued operations related to the Motorola Mobile business sold in October 2014.
Key Financial Metrics
| Metric | Three Months Ended Sept 30, 2015 | Nine Months Ended Sept 30, 2015 |
|---|---|---|
| Revenues | $18.675 billion | $53.660 billion |
| Net Income | $3.979 billion | $11.425 billion |
| Diluted EPS (Class A/B) | $5.73 | $15.77 |
| Operating Income | $4.708 billion | $13.980 billion |
| Operating Margin | 25.2% | 26.1% |
| Effective Tax Rate | 18.6% | 20.9% |
| Cash from Operations (9mo) | $19.609 billion | |
| Cash, Equivalents & Marketable Securities | $72.767 billion (as of Sept 30, 2015) | |
| Total Debt (Short + Long Term) | $5.231 billion |
Material Changes vs. Prior Period
- Revenue Growth: Revenues increased 13% year-over-year for the quarter and 12% for the nine-month period. On a constant currency basis, growth was 21% for the quarter and 19% for the nine months, indicating a significant headwind from the strengthening U.S. dollar.
- Profitability: Net income increased 45% for the quarter and 21% for the nine months compared to the prior year periods. Operating margins expanded to 25.2% (quarter) and 26.1% (nine months) from 22.5% and 25.3% respectively in the prior year.
- Expense Trends: Cost of revenues increased primarily due to data center costs and content acquisition for YouTube. Research and Development expenses rose 22% for the quarter, driven by a 12% increase in R&D headcount and higher stock-based compensation.
- Discontinued Operations: The prior year periods included a net loss from discontinued operations (Motorola Mobile) of $185 million for the quarter and $451 million for the nine months. The current period has no discontinued operations.
Guidance, Outlook, and Risks
- Outlook: Management expects cost of revenues, R&D, sales and marketing, and G&A expenses to increase in dollars and may increase as a percentage of revenues in future periods. They anticipate continued investment in new businesses, products, and infrastructure.
- Reorganization: The company expects to disclose Google as a single segment and "Other Bets" (Alphabet businesses) separately beginning in the fourth quarter of 2015.
- Stock Repurchase: In October 2015, the Alphabet board authorized a stock repurchase program of approximately $5.1 billion, commencing in the fourth quarter of 2015.
- Risks: Key risks include antitrust investigations (notably by the European Commission regarding shopping search and Android), intellectual property litigation, foreign exchange volatility, and the potential for declines in revenue growth rates. The company noted that its foreign exchange risk management program will not fully offset net exposure to currency fluctuations.
- Unusual Items: The company revised previously issued financial statements for periods beginning in 2008 through Q1 2015 to correct an income tax expense underaccrual of $711 million, though this was deemed immaterial to prior periods.
Investor Verification Checklist
- Verify the impact of the strengthening U.S. dollar on international revenue growth by comparing reported growth (13%) vs. constant currency growth (21%).
- Monitor the progress of the European Commission's antitrust investigations into Google's shopping search and Android distribution practices.
- Review the execution of the $5.1 billion stock repurchase program authorized by Alphabet in October 2015.
- Assess the trajectory of R&D expenses, which increased significantly due to headcount growth, and their impact on future operating margins.
- Confirm the timeline for the new segment reporting structure (Google vs. Other Bets) starting in Q4 2015.