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3 months ago

#126 How Does Google Make Money?

Alphabet is driven by another A word...

Transcript
David Kopec

Google, a company owned by Alphabet, which has a market capitalization of 1.5 trillion at the time of recording of this episode, is one of the largest companies in the world. But where does all their revenue come from? In this episode, we'll explain. Welcome to COPEC Explain Software, the podcast where we make computing intelligible. This episode is titled How Does Google Make Money? It's in our series about big software companies and where their revenue comes from. But it could have been called how does Alphabet make Money? Because several years ago google was reorganized as a subsidiary of a company called Alphabet that has several other subsidiaries in exploratory areas. But we're really going to be focusing mainly on Google because that is where the vast, vast, vast majority of the revenue for Alphabet comes from.

Rebecca Kopec

We decided to tackle this topic because Google's been in the news recently.

David Kopec

Right. Google is actually being sued by the US federal government for antitrust. It's alleged that Google has a monopoly on the search space and has been using certain aggressive, possibly illegal business practices to maintain that monopoly. We're going to consider covering that in a future episode. But before we can get into that, we need to understand just how big is search for Google? Is it the whole company? Is it just a small part of the company? It's what they're known for, for sure, but how does it translate into dollars? So to tackle this, we looked at Google's most recent quarterly filing. This is for the third quarter of 2023 and was just released a few days ago. At the time that we're recording this episode, this filing covered the months of July, August and September 2023. So all the numbers we're talking about today are for a quarter of a year unless we state otherwise.

Rebecca Kopec

Well, before we dive into the numbers, let's talk about what are the different ways or the different components of Alphabet or Google.

David Kopec

Sure. And when you look at their quarterly report, they categorize all of their different arms of the business into several big, broad categories. They don't get super granular in the quarterly report, so if these categories sound a little vague, they are. So Rebecca, what are the major categories on the report?

Rebecca Kopec

The first three are all advertising. We have Google Search, YouTube ads, the Google Network, and then we have their non advertising categories. Other Google, what did they mean by that?

David Kopec

Yeah, that's going to include things like their hardware products, of course, their Pixel line of phones. That also includes interestingly YouTube subscriptions. That also includes other kinds of Google services like the Google Play Store, for example.

Rebecca Kopec

Then we have the Google Cloud. And I think my favorite title for category is Other Bets.

David Kopec

Yeah, that's waymo, which is their self driving car initiative, for example, which is part of Alphabet but not part of Google. So Google's like a subset of Alphabet, but all of those other bets, including waymo are tiny, tiny, tiny, tiny, tiny. So they're almost not even worth talking about in terms of revenue. But we'll mention the raw numbers for you in a little bit, and we'll get into all these categories one by one. In a little more detail, let's talk.

Rebecca Kopec

About where the majority of their money is coming from advertising.

David Kopec

Right. So there's three categories within here, and the first is Google search. So what was their total revenue for those three quarters in search?

Rebecca Kopec

In search, it was 44 billion with a B dollars.

David Kopec

Wow. That's a huge amount. And for reference, as we compare all these categories, what was their total revenue amongst all activities for that quarter?

Rebecca Kopec

For the quarter, it was 76.7 billion.

David Kopec

So what does that make search as a percentage of all of their revenue?

Rebecca Kopec

57%.

David Kopec

Okay, so there's an answer to a very important question for this ongoing lawsuit between the federal government and Google. How significant is search to Google's business? Well, very significant. It's more than 50% of their total revenue.

Rebecca Kopec

I mean, it makes sense. Googling something is a verb now, right?

David Kopec

But actually, a lot of other activities that Google participates in lead back to search. For example, they developed the Android operating system. The Android operating system is the most popular operating system in the world. It's on the majority of the world's phones. What is the default search engine on Android? Of course, it's Google. Google pays many billions of dollars to Apple to be the default search engine on iPhones. Google also pays Mozilla to be the default search engine in Firefox. Why do they spend these billions and billions of dollars to develop Android to have these relationships? Because search is where they're driving the vast majority of their revenue.

Rebecca Kopec

Then let's talk about YouTube ads. So this isn't just what's on YouTube or like a subscription there. They're talking about the advertising that happens within YouTube, right?

David Kopec

YouTube is more than one revenue source. Ads is the biggest revenue source, but they also sell subscriptions, which is actually covered in a different category.

Rebecca Kopec

And the YouTube ads are making them $8 billion or made them $8 billion in this last quarter.

David Kopec

And what percentage is that?

Rebecca Kopec

That's 10%.

David Kopec

So pretty significant, but nowhere near close to search. Okay, what's the next category then?

Rebecca Kopec

We have the Google network. What did they mean by that?

David Kopec

So Google network is when you see ads that Google is doing the auctions for that are on other websites. So a lot of websites use Google as their advertising partner, and Google is delivering the ads for those websites and also facilitating the ability for advertisers to purchase those ads.

Rebecca Kopec

So that made them $7.7 billion, which again is about 10% of their total revenue.

David Kopec

So quite significant, but not anywhere near as large as search. But if we take those three categories together, if we take search ads, because that's the revenue from search, it's ads, and we take YouTube ads, and we take Google Network ads altogether, that's 77% of their revenue. So Google makes the overwhelming amount of its revenue from advertising. And that's probably not news to most of the folks listening to this, but it's still a very, very significant number.

Rebecca Kopec

But it's not the only way that they're making money. There also are other things that they're calling actually just other Google, right?

David Kopec

This category, like we mentioned earlier, includes things like their hardware efforts, their other services like the Google Play Store, and interestingly YouTube subscriptions, which we actually listened to, their most recent earnings call. And their CFO pointed out that YouTube subscriptions is one of their fastest growing areas. He was very bullish about this area. So this whole area of other Google, quote, unquote, what percentage of their revenue is it?

Rebecca Kopec

That's only 11% of their revenue, and it's $8.3 billion.

David Kopec

Now, contrast this with a company like Apple, which is often thought about as Google's biggest competitor because of Android versus iOS. One of our top episodes of all time, by the way. Well, iOS, a lot of that revenue for Apple is coming from selling the hardware. Actually, the vast majority of it is. And so Google's making money on advertising and a tiny, tiny amount of money in comparison. Still a huge amount of money if it was its own company. If their hardware products were their own company, it'd still be a huge company. But compared to their advertising, it's tiny. And so they're making money on advertising. And hardware is kind of like this tiny side business. Whereas Apple's making money mainly selling hardware and doesn't have an advertising business, right.

Rebecca Kopec

So what's google cloud?

David Kopec

So Google Cloud is Google's competitor to Amazon Web services and Microsoft Azure. And Google Cloud is actually a distant third in market share. Amazon Web Services is the biggest cloud provider. These are basically services where you can rent a server, rent a database quickly, spin up instances of servers to run your software as a server business or the backend of your mobile app. Or maybe you're running your entire data center because you're a large company off of Amazon or Google or Microsoft servers instead of building your own data center. In this particular business, though, Google is a distant third player compared to Amazon and Microsoft. So how much is Google Cloud in revenue for them in that last quarter?

Rebecca Kopec

That's $8.4 billion, which is another 11% or so.

David Kopec

So, again, quite significant, but nothing compared to their advertising business. One thing we found that was very interesting while looking through the report and listening to the earnings call is that their margin on Google Cloud is extremely low.

Rebecca Kopec

Which makes sense when they're the third player in this arena, right?

David Kopec

It's only a 3% margin. You might wonder, how would they, at that scale, still be at only a 3% margin? What I imagine it is, is extremely competitive pricing to try to take market share from Microsoft and Amazon. But that's my speculation. I don't know exactly why the margins are so low, but I'm sure they're much lower than their margins in the advertising space.

Rebecca Kopec

And then there's the smallest category of revenue.

David Kopec

Other bet, right? So these are going to be all the other quote unquote companies. And I say companies because a lot of them are more like research and development efforts that are under the Alphabet umbrella. So the total amount of revenue for this was very small. What was it, Rebecca?

Rebecca Kopec

It was only $297,000,000.

David Kopec

What's that as a percentage of their revenue for the quarter?

Rebecca Kopec

That's 0.4%.

David Kopec

Right? So you hear about all these exciting initiatives that they have out there, and I'm just going to bring up Waymo, because that's probably the one that most people are familiar with. These are autonomous cars that are actually on the streets, and some people consider Google to be the not Google, I should say Alphabet, sorry, the furthest ahead with their Waymo effort compared to other autonomous vehicle companies, but it's not actually much of a driver for them in revenue at all. And I'm not even sure if waymo out of those other bets is the one that makes up this nearly $300 million. But what we did find out from the earnings report is that in these other bets, they're actually losing $1.2 billion. So they're bringing in $300 million through these other bets, but losing a lot more than that. So they're not actually centers of profit for them at all. Speaking of profit, what was Google's profit during that three months?

Rebecca Kopec

So their net income came to $19.7 billion.

David Kopec

So that's pretty significant, right? So they're actually keeping a really large share of that 77 billion or so of revenue as profit. That's after taxes. That's after paying their employees. One interesting stat to always look at is how much money are they actually spending on research and development? How much money is going into creating new products? Iterating on their most important products. What do we find for that in the report?

Rebecca Kopec

This one surprised me. They're spending $11.3 billion on R and D. I guess I imagined Google spending a lot of money on it.

David Kopec

Well, $11.3 billion is a lot of money. It's a huge amount of money. What we'd have to look at to be more precise about this is as a percentage of revenue, how does that compare to Apple, Microsoft, Amazon? That might be something we look into more in a future episode. So it's hard to know. Is that a huge number? Is that a small number? But sometimes you might be thinking that, oh, they're like spending all of their cost as R D, but no, R D is not even a majority of their cost.

Rebecca Kopec

Let's talk about where they make their like in what parts of the world is their money coming from?

David Kopec

Yeah, so in their earnings report, they split it out by different regions of the world that they operate in. Let's start with the United States, because that's the biggest source.

Rebecca Kopec

That's 47%.

David Kopec

And, you know, we did a previous episode on how Facebook makes money, and it was actually a really similar number. Facebook generates 50% of their revenue from the US and Canada. This is the US on its own in this Google number. And yeah, it's almost 50% of their revenue. Obviously, 50% of their users are not in the United States. Google is an international company and all of their products actually have the vast majority of their users outside the United States. But despite that, the US market is so lucrative for them, it's about 50% of their revenue.

Rebecca Kopec

Then they broke it into Europe, Middle East and Africa, which was 30% of their revenue.

David Kopec

That's a lot of different countries to throw into one basket. Right? Not very granular. So we got everything from Egypt to the United Kingdom all thrown into one giant basket. But altogether, all of those together is 30%, which is quite a bit less than the US on its own.

Rebecca Kopec

And then it gets smaller. We have Asia Pacific, which is 17%, and other Americas. So Canada, Central America, south America was just 6%.

David Kopec

Right. What we see is the US is a dominant market for them and no other country on its own is really even close in significance to the United States in terms of how important it is to them as a revenue driver.

Rebecca Kopec

One of the parts of the call that I found the most interesting was where's the really good growth happening for Google, and I guess I just assumed it would be maybe some of their other bets or these other places that they're investing in. But it's actually in their YouTube ads, their search ads and their YouTube subscriptions.

David Kopec

Yeah, so that makes sense. I mean, they've made the YouTube ads so annoying that they've pushed enough people to actually subscribe. I'm not a huge fan of Google's business model in general, of basically using our data to target us with ads, but I still give them money for YouTube subscription because I don't want to be watching those ads.

Rebecca Kopec

An area that was not growing well was their hardware.

David Kopec

Yeah, they said in the most recent quarter at least, that they faced, quote, headwinds and described a few of them. But that's another way of saying that their hardware growth was flat, probably in the most recent quarter.

Rebecca Kopec

And if they needed to, they've actually got plenty of liquid assets. They have $120,000,000,000 ready to spend.

David Kopec

Yeah, that's in cash and other easily marketable securities that's things that are pretty liquid that they could quickly access. So don't be worried about whether they have a bad quarter. They'll be able to ride it out just fine. So I hope you found interesting this dive into how Google makes money. And of course, their parent company is Alphabet. But really what we're talking about where we're talking about alphabet is really just Google. To recap, the vast majority of Google's revenue, 77% to 78%, comes from advertising in the most recent quarter. Their areas of growth are mostly in advertising and YouTube subscriptions, too, and everything else, while on its own, would be a huge company if they were independent companies. These other business units, they're relatively small, like their hardware efforts compared to the size of advertising as a driver of growth and revenue for them. I'll put links in the show notes to our previous episodes on how large software companies make money, and we may do an episode soon on the antitrust case against Google. Thanks for listening to us this week, Rebecca. How can people get in touch with us on X?

Rebecca Kopec

We're at Copeck explains K-O-P-E-C-E-X-P-L-A-I-N-S.

David Kopec

Thanks for listening and we'll see you in two weeks. Bye.

Alphabet, the parent company of Google, is one of the largest companies in the world by market capitalization. But where does all of the revenue come from to support that? In this episode we analyze Alphabet's third quarter earnings report and earnings call. We delve into the different categories of revenue, how they breakdown as a percentage, what they mean, and some other interesting details that we noticed. By the end of the episode you will have a solid understanding of what's driving Google's revenue and growth.

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