Krause Fund Research Fall 2019 November 15Th, 2019

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Krause Fund Research Fall 2019 November 15th, 2019

Alphabet Inc. Recommendation: BUY (NASDAQ: GOOGL) Current Price $1,333.54 Communication - Media Target Price $1,520 - $1,600

Analysts DCF & EP Model: $1,608 Chase Blatz Colin Agey DDM Model: $1,204 [email protected] [email protected] Relative Value Model: $1,246

Investment Thesis Stock Performance Highlights

We recommend a BUY rating for Alphabet Inc. because of the company’s position as 52wk Range: $977.66 - $1,322.65 being the global force in online advertising, recognizing and acting on the need to diversify their revenue make up, and untapped growth opportunities within their Beta Value: 1.01 business segments. Share Highlights Drivers of Thesis  Market leader: Alphabet currently holds the highest market share of online Market Cap (B) 902.819 advertising industry at 37.1%17 and will look to continue this dominance by their Shares Outstanding (M) 229.63 position as the market leader in online Search and through the growth of Forward P/E $24.22 YouTube. EPS (2020E) $42.77  Cloud growth: Google looks to expand and capitalize on the growth of its Cloud storage and services business. By 2022, the cloud market is projected to expand over $300 billion. Google currently sits at 12% market share13 but has Company Performance Highlights shown they want to be a leader in this market. ROA 8.55%  Diversifying revenue stream: Alphabet has a continued focus on expanding their Cloud business, furthering growth in streaming and ad revenue through ROE 17.88% YouTube, and advancing the development of products and services within their Profit Margin 21.04% Other Bets. Net Income (B) 30.7 Risks to Thesis Company Description  Government Regulation: Alphabet has faced antitrust probes over the past 10 years, and they are currently being investigated for antitrust practices by almost Alphabet Inc. is the largest provider of every state’s Attorney General. There will almost certainly be some sort of regulation in online advertising and data collection, so Alphabet’s ability to online advertising services in the world. The build a diverse revenue stream is crucial. company operates from Google and its Other Bets. The Google segment includes the Google search engine, Ads, Android, 12 Month Performance Compared to S&P 500 Chrome, Google Cloud, Google Maps, Google Play, Hardware, and YouTube. The Other Bets segment focuses on investing in small companies that look to shake up different industries. Alphabet currently receives 99.6% of their revenue from its Google segment, with 85% of their Google

revenues coming from advertising12. 1 Source: Yahoo Finance36 economy to invest in projects with the end goal of Executive Summary ultimately raising real GDP. Looking at the next 6 months, we see real GDP growth at 2.25% as monetary policy looks to mitigate some of the external threats to the U.S. economy (ongoing Our team recommends a BUY rating for trade war with China and global weakness in Alphabet Inc. (NASDAQ: GOOGL) for the manufacturing). Over the next 3 years we see the University of Iowa Krause Fund Portfolio. U.S. real GDP growth rate to drop to 1.75%. Alphabet currently holds and will maintain a large market share in online advertising, they are growing their business segments of YouTube and Google Cloud, and are continuing the development and rollout of services and products in their Other Bets. We believe Alphabet still has higher than market growth potential through its ability to adapt to potential government regulation around online advertising and data collection. Due to Alphabet’s large market share of the online advertising market and their initiatives to grow other segments of their (Figure 1: Trading Economics)1 business, we are also positive that Alphabet has a better opportunity to grow during a period where Advancements in technology have historically U.S. Real GDP slows down, U.S. unemployment been large drivers of GDP growth, as new ticks up, and overall consumer confidence slides. innovations in how the world communicates and Our forecast models that are included in the how businesses operate lead to expansion. The report support and help explain our BUY rating Communications sector of the S&P 500 was for Alphabet. Our current target price is $1,520- reorganized in 2018, which brought in some of $1,600. the largest companies in the world like Alphabet Inc., Facebook Inc., Netflix Inc., and The Walt Disney Company. These new additions will be Broad Economic Outlook some of the main drivers of the sector over the next decade. Many of the businesses in the Communications sector have a strong reliance on consumer demand, and if that consumer demand U.S. Real Gross Domestic Product (GDP) decreases in relation to a decrease in GDP growth, so will the overall performance of the Real GDP growth is an important metric to sector. follow, as two consecutive quarters of negative real GDP growth signals that there is a recession. In the event of a recession, Alphabet will see The current real GDP growth rate is 1.90%1. The smaller growth opportunities. Alphabet relies on Federal Reserve, led by the Federal Open the health of other companies in regard to their Markets Committee (FMOC), is projected to advertising and cloud computing business, and if continue with monetary policy changes to help there is less demand stemming from a lack of grow the economy. The Federal Reserve has cut overall business opportunities, Alphabet will feel the federal funds rate by a quarter point in three it in their revenue growth. In our valuation model consecutive meetings, slashing the fed funds rate for Alphabet, we incorporate an economic from 2.50% in June 2019 to 1.75% by the end of slowdown, but we still saw positive growth October 20191. This change in the federal funds throughout our timeframe. Alphabet has shown to rate allows banks to lend money at a lower rate, be a leader within the industry and sector, as which theoretically puts more money into the Alphabet’s stock price has grown 127.42% since

2 2015. In comparison, the S&P 500 has grown Our forecasted decline in confidence from 52.36% since 201536. consumers will have a slight negative effect on Alphabet’s bottom line. As consumers are less U.S. Consumer Confidence Index willing to spend money on goods and services, businesses who use Google’s Ad services will The Consumer Confidence Index (CCI) is a decrease their advertising spending and demand survey of consumer attitudes and buying lower prices to use those ad services. Since intentions that reflect the prevailing business Google has the largest market share in the online conditions and likely conditions for the future digital advertising space, they will only see a months ahead. The most recent survey shows the moderate slowdown in overall revenue growth Consumer Confidence Index declined slightly to compared to other online advertising businesses. 125.9 in October, after declining in August and September2. In the latest Consumer Confidence U.S. Unemployment Rate Survey (10/29/19), produced by The Conference Board, consumers were less optimistic about The U.S. unemployment rate is a key indicator of business conditions in the next six months. Much the labor market. As more workers become of the economic strength that we have seen over unemployed, their families lose wages. This the past few years has relied heavily on consumer results in a slowdown of individuals contribution spending, and the current trade war with China to the economy with the goods and services that has yet to show any resolve. Over the upcoming could be produced or consumed. The current U.S. six months, we see consumer confidence to unemployment rate sits at 3.6% as of October continue to slowly decline to 120, barring major 2019, but this is a statistic that is regularly changes in the political climate. In the next three updated as it is a surveyed indicator3. The U.S. years we are projecting consumer confidence to unemployment rate has been relatively low over trend downward to 105.5 as we see key global the past few years, getting down to the lowest indicators from other countries point towards a point it has been in the past 20 years, which can slowdown. be partially attributed to President Trump’s tax cuts on businesses and income taxes. Over the next six months we are projecting that U.S. unemployment will stay relatively unchanged, with the rate hovering around 3.9%. In the next three years, we believe the U.S. unemployment rate will increase to 4.5%.

(Figure 2: CEIC Data)2

This lower CCI over time will affect the Communications sector directly since a lot of the firms produce goods that can easily be substituted for cheaper options in a recession. This number is directly related to real GDP growth, and as the economy begins to slow down, consumers are less confident in the economy. Consumers are (Figure 3: BLS)3 also less likely to spend their money on unnecessary goods and services, like additional Alphabet is currently one of the most streaming and entertainment services. recognizable firms in the country which will allow it to fill vacant positions more easily. The

3 historically low unemployment rates will not ad seller in the world, with a 31.1% share of affect Alphabet as much as other firms because worldwide ad revenue4. With the uncertainty they offer extremely competitive wages and other around industry regulation moving forward, we benefits. Alphabet has a median wage of see a potential shakeup to Google’s digital ad $200,000, which is the fourth highest out of all revenue business, which will have larger S&P 500 companies that disclose wages6. implications on Alphabet’s overall revenue going forward. We do believe the U.S. will adopt and Regulatory Environment implement a law similar to the European Union’s General Data Protection Regulation (GDPR) by The regulatory environment in the 2023. Alphabet is already operating under the communications industry has been shifting GDPR for part of their business. The main recently with more scrutiny about how companies purpose of this law is to protect individuals by collect data and how the size of Google and allowing them complete ownership of their data Facebook are affecting competitive practices and giving them the power of whether to allow within the industry. States and government businesses to use their data. Companies like regulatory agencies have been investigating the Alphabet must explain why they are collecting practices of the largest communications data and how they intend to use their data. This companies like Alphabet Inc. and Facebook Inc. helps companies be more transparent to Attorney Generals from nearly every state are consumers, which will better protect individuals. joining to launch a probe into the impact of This type of law will result in more costs for Google’s digital advertising markets5. Google is Alphabet since they would have to hire more also currently facing an antitrust probe by the people to maintain compliance with GDPR. This Justice Department. The outcome of these probes will also affect Alphabet’s revenue by increasing will include tighter laws about how companies the competition in the online advertising market. can collect data and could force Alphabet to allow This means Google will have control of less of more competition. Companies like Alphabet will the market, which will hurt their revenues. Their not be able to limit other rival companies from revenues are driven by cost-per-clicks (CPC), advertising on any of Google’s platforms. This which are the amount they are paid for each time will lead to more competition for Google with an advertisement is clicked on from their web other search engines but will also prevent service. Facebook from generating as much advertising revenue. While trying to control the power large tech companies have when it comes to consumer Industry Analysis data could help protect individuals’ data privacy, it could lead to less overall freedom for companies to operate on these platforms. In their Industry Trends 10-K, Alphabet explains that they are up against more scrutiny because of these new probes and The online advertising industry includes potential regulations which could hurt Alphabet’s companies who engage in content and reputation. We believe that Alphabet has a very information creation or distribution through strong reputation, and even if they have to change proprietary platforms. Revenues are primarily some parts of their business model, they will still made from cost-per-click advertisements, which be a top company. We project that Google will stem from engagement from online search see their overall advertising growth decrease engines, social media and networking platforms, from 10% ad growth from 2021-2022 to 6.5% in video streaming services, online classifieds, and ad growth in 2023-2024 due to impending online review companies. This industry is regulation. experiencing secular growth with an increasing number of global internet, broadband, and mobile A large portion of revenue for Alphabet stems users creating more revenue opportunities. from their digital advertising business through Google. As of 2019, Google is the largest digital

4 With the emergence and higher usage of Baidu with 0.74%14. Unless there is regulation smartphones, spending for paid search on mobile that targets search engine companies or devices surpassed desktop spending, with an 88% partnerships of other search companies with share for mobile social media spending and 54% smartphone makers, we see that Google’s status search engine spending in 20187. Online mobile of being the market leader will continue in the ads are cheaper and can generate more near-term and the long-term. impressions than desktop platforms, which pushes down the cost-per-click (CPC). Overall CPC rates were down 7% year-over-year in Q3 2019 compared to Q3 20187. The increasing role of smartphones will continue to affect the CPC rate for online advertising companies, as mobile advertising takes more market share away from desktop advertising, which will offset the higher cost-per-click of desktop advertising. Over the next 5 years we see the CPC rate increasing as competition for mobile advertising will allow Alphabet and other online advertisers to charge higher prices. (Figure 5: Statista)15

Google’s search engine dominance has faced antitrust scrutiny and has been fined over €8 billion by the European Union since 2010 from three different antitrust cases16. As long as Google has the largest search engine market 7 (Figure 4: Kenshoo) share, they will continue to face potential future fines if they fail to comply with EU and U.S. anti- We expect to see this trend of growth in mobile competitive laws. advertising to continue as the next wave of 5G technology makes streaming and downloading Google is also a major player in the cloud storage online videos faster and more accessible to users. market. With competitors like Amazon and YouTube, Alphabet’s subsidiary, looks to Microsoft, Google is relatively new to cloud primarily benefit from this technological shift in storage and currently is the third largest cloud the industry. storage company behind its two competitors, respectively. Google’s cloud services are There are different industry trends occurring in growing rapidly. The market overall is continuing different portions of Alphabet’s advertising to grow, and spending is expected to increase revenue makeup. Alphabet’s advertising revenue, from $200 billion in 2019 to over $300 billion by 12 which accounts for 85% of their total revenue , 202224. Google has explained in their most recent and the two main sources of revenue stem from earnings call that their cloud service is a top Google’s dominance in the search engine priority and they expect to triple the number of industry and Alphabet’s popular online video and workers on the salesforce. While Google is not on social media company, YouTube. top of the cloud storage market, they are spending more on cloud infrastructure in order to reach The search engine industry has long been more companies. Amazon controls 61%, dominated by Google. As of 2019, Google has an Microsoft has 27%, and Google has 12% of the 14 88.61% share of the search engine market. The cloud storage market share as of 201913. next closest search engine is Microsoft’s Bing, with only 4.98% of the global market share, which was followed by Yahoo! at 2.72% and

12,31,32,33 (Figure 7: R&D as a percent of revenue) (Figure 6: Cloud market share)13 An important metric that social media companies Our forecast for the future of the cloud storage watch is their monthly active users (MAU). MAU market shows that Amazon will continue to lose is the number of unique users of a social media market share and Google will continue their platform in the last 30 days. As Alphabet has growth. The business segment will grow at 25% expanded, YouTube looks to be an important part over the next two years in Google’s other revenue of Alphabet’s growth. YouTube is a primary segment in our valuation model. platform for many companies to advertise and to reach different age demographics. Comparing Competition YouTube to other social media platforms, YouTube is used by 73% of adults, while Alphabet is in a tight competitive environment, Facebook is used by 68%8. The difference is which has occurred because large firms like greater when looking at teens; 85% of teens say Alphabet are looking for growth opportunities in they use YouTube and only 51% of teens different industries. Alphabet’s top competitors responded they use Facebook8. YouTube and are Apple, Facebook, Amazon, and Microsoft. Facebook both have 2 billion monthly active These companies rival Alphabet in different users as of May 201910,11. Advertising on both product markets. This diversity of products platforms is growing, as they are underutilized for makes it hard to pinpoint competitors who are how many people use them per month. We expect exactly similar, so we decided to look at Alphabet to increase their advertising and important metrics for these large firms. Research streaming revenue through YouTube, which will and development is a very important metric for help Alphabet grow overall revenue. In the near online advertising. Research and development as future, we do not expect YouTube’s ad revenue a percentage of sales shows how efficiently to outgrow Facebook’s, but long term, YouTube companies are using their revenues to generate is set up better for successful growth through money and invest for future growth. In the graph YouTube TV. below, we compare Alphabet to Facebook, Amazon, and Baidu. Facebook has a very high R&D as a percent of sales because they invest more money to generate more advertising revenue.

(Figure 8: Monthly Active Social Media Users 10,25)

Government Regulations

Recent antitrust regulations are threatening to break up the large market shares of Alphabet and Facebook. A change in online advertising regulation could result in major increases in costs to comply with these new regulations, and potentially affect revenues as their market shares will decrease. Alphabet and Facebook currently make up a duopoly and combine to make up 57.7% of the online advertising market17. Google has faced regulatory scrutiny in the past and has had to pay over €8 billion to the European Union. This law will change how Google can advertise, since most ads use individuals’ information to (Figure 9: eMarketer)17 tailor ads that they will be more likely to click on. If this information cannot be used, it will result in Amazon is going to be the company to watch in less advertising revenue for Alphabet and will the online advertising industry for the next few hinder their company growth. In our valuation of years to come, as they are the largest online revenues, we assume the U.S. will adopt a law retailer in the United States with roughly 49% of similar to GDPR and come into effect in 2023. e-commerce sales18. This has opened up an This new law explains why Google properties’ opportunity for Amazon to steal chunks of online growth rate drops from 10% to 6.50% in 2023. advertising market share as they make it easier for Advertising is Alphabet’s main driver of advertisers to use their platform to promote their revenues, but regulation will certainly slow products and services. Amazon unveiled in growth if implemented. September of 2018 that they bundled all of their advertising services of Amazon Marketing Porter’s Five Forces Services, Amazon Media Group, and Amazon Advertising Platform into one service called Industry Competition Amazon Advertising. This was a similar move to Within the online advertising industry, how Google bundled its services into Google Ads competition is increasingly more aggressive. As in July of 201819. Amazon is projected to we have previously mentioned, Alphabet and continue to grow in this space, and by 2020 take Facebook have held a strong duopoly in market up almost 7% of online advertising17. share, with the two companies combining for 57.7% of the total U.S. digital ad spending in 201817. Google has a 37.1% share of U.S. ad spending, followed by Facebook with 20.6%, and the next closest competitor is Amazon with 4.1%17. Looking at figure 9, you can see how the large market shares of Google and Facebook dominate the online ad market.

(Figure 10: Statista)21

7 Threat of New Entrants Building a successful company in the technology sector has become easier over the past 10-15 years with online tools that are now available, like free cloud storage, website editors, and social media to help promote your company and brand. Another factor contributing to the growth of starting a technology-based business is the accessibility to venture capital funds.

(Figure 12: Research Sniper)27

Threat of Substitutes The substitutes in the market are limited due the trust and familiarity users have built with their providers. Although it’s relatively easy for customers to change internet businesses, we see this as a negative for the consumers. They do not want to risk losing money from services provided by online advertising.

(Figure 11: NVCA Venture Monitor)20 Supplier Bargaining Power Alphabet has few suppliers that it makes deals Even with the easier ability to launch new internet with. These suppliers are dependent on Alphabet businesses, we do not see new players as a threat because suppliers generate the majority of their to the dominant companies like Google and revenue from sales to Alphabet. This means Facebook in the online advertising space. The Alphabet can control prices more than the size and scope of these online behemoths make it supplier. difficult for new internet businesses to gain traction. If some business eventually gains Customer Bargaining Power popularity, Google or Facebook will look to Customers have a low amount of power in the acquire them and retain their market dominance. online advertising industry because the market is Recent examples include Facebook’s acquisition dominated by two main providers, Google and of Instagram and WhatsApp, and Google’s Facebook. There are other providers of acquisition of YouTube. So far, Google has made advertising opportunity, but none that match the 229 acquisitions since their inception in 199822 potential reach that Google or Facebook can give and have shown they are not afraid to acquire to their customers. Google specifically has the businesses that either threaten their business or advantage over their customers as they run the help continue to grow their business. On the other primary auction house for online advertisements hand, Google’s largest competitor in online and are also an auction participant. Google is advertising Facebook, has made only 72 known to be a make or break company when it acquisitions. comes to its online advertising business, as over 90% of large internet media publishers use Google’s ad services35.

Industry Catalysts for Growth In the online digital advertising industry, data is unrefined gold. It is important to have, but what is even better is to be able to take large collections

8 of online data and turn it into useful analysis that potential consumers for advertisers is now being can give more accurate predictions and found in the growth of mobile devices for recommendations over time. The key to turning streaming purposes, which is serving as a positive this unrefined data gold into its precious and for the online advertising industry. shiny form is through artificial intelligence (AI). The world is currently producing the greatest Negative amount of data in human history, with an average A consistent theme throughout our analysis of the amount of 2.5 quintillion bytes of data produced online advertising industry and of Alphabet is per day. Over 90% of the data in the world has that regulation of anti-competitive practices and been produced since 201629. AI is valuable for data-collection and usage is on the horizon. It is future business success because AI can analyze hard to project when these regulations come, but huge sets of online advertising data that will when they do, the entire industry will be provide excellent consumer insight and will be reshaped. able to target users with online ads more efficiently. Many large tech firms have been leading the charge in recognizing this and acting Company Analysis by acquiring AI companies. Apple is the current leader in AI companies acquired with 20, followed by Google with 14 acquisitions which is Overview shown below. Alphabet was created in 2015 as the holding company for Google, which has been around since 1998. Alphabet is broken into two main segments in their financial statements. One is Google and the other segment is Other Bets. Google includes all the traditional parts of Google like YouTube, Google Cloud, Google search engine, and Google’s other advertising services12. Other Bets is a high risk, high reward segment for Alphabet where they put about 15% of revenues into developing new products that attempt to shift industries and tackle large problems in the world. Other Bets is one of management's top priorities for long term (Figure 13: CBInsights)30 diversification of revenues and growth.

Key Industry Positive and Negative Products Alphabet’s main product is through Google, Positive which provides online advertising services in the A major positive for the online advertising United States, Europe, Africa, the Middle East, industry is the potential reach that advertisers Canada, Asia-Pacific, and Latin America. have when trying to promote their products and Google’s two main ad services include services. Before the smartphone, desktop performance advertising and brand advertising. computers were the best and the only way to Performance advertising helps create and deliver reach people online, but the introduction of the ads that are relevant to specific users which leads smartphone as an advertising platform quickly to direct engagement with advertisers. Google changed how easy it was to reach more gets paid when advertisers using this service consumers. Looking at the break down of search receive engagement in their ads. Brand engine usage per device on page 5, you can see advertising enhances the user’s awareness and that Google has positioned themselves as the fondness with an advertiser’s products and dominant player in the search engine industry services through videos, text, images, and other across all platforms. The continued reach for interactive ads. These services can run across

9 various devices, and help advertisers grow their quarter 10-Q, Alphabet announced that YouTube brand-building marketing campaigns. generated the second most revenues for Alphabet behind their mobile search engine. Currently, the The other aspects within Google’s business CPC for YouTube is low because of lower costs segment are core products like Android, Chrome, to advertise on YouTube compared to other Gmail, Google Drive, Google Maps, Google advertising platforms12. This price will increase Play, and YouTube12. Each of these services as more people begin to use YouTube and their generate over one billion monthly active users relatively new streaming service, YouTube TV. (MAU). We see these products as critical Since 2012, 10 million traditional TV components to Alphabet’s future success as subscriptions have been cancelled. This sets up Alphabet looks to diversify their revenues. over-the-top services called streaming services YouTube has the most potential for revenue that arise to fill that content void. YouTube TV growth as the service is becoming a more popular has been designed for large growth opportunities source of online streaming for entertainment. in the future. It currently costs $49.99 and a Alphabet does not break down their revenues by consumer can get 60+ channels with no individual companies and they never specifically commitment. YouTube TV rolled out nationally say how much money YouTube, Google Cloud, in early 2019, and they have over 1 million or other Google products make. Management subscriptions. By 2020, they will have an noted in 2019’s third quarter 10-Q that estimated 1.5 million subscriptions. With the Alphabet’s products that brought in the most number of cord-cutters at an all-time high, there revenue were mobile search, YouTube, and is plenty of space for YouTube TV to grow in the desktop search28. future. YouTube is currently the second most visited site behind Google and has the highest Alphabet’s lesser known business segment is time per visit out of the top 20 most visited sites23. their Other Bets. Other Bets consists of different subsidiaries that in total only make up 1% of Another major growth opportunity for Alphabet Alphabet’s total revenues12. These subsidiaries is their cloud services. Alphabet plans to spend include Access, Calico, CapitalG, GV, Nest, $3.3 billion over the next three years on European Verily, Waymo, and X. These are also arguably data centers24. The cloud market size is increasing Alphabet’s most exciting opportunities for which will lead to increased revenue and growth growth. Alphabet is trying to solve big problems opportunities which will help diversify some of that cover different industries. Many of their Google’s revenues away from advertising. The Other Bets are businesses at various stages of cloud market in Europe will expand by 22% over development, with some of them having the next three years and global spending has “graduated” and others that are still being increased by $30 billion in the past year24. By researched and developed. Currently, Other Bets 2022, the cloud market could surpass $300 is generating most of its revenue through Access, billion24. Amazon and Microsoft currently are in which provides internet and TV services through control with 33% and 16% of the global market Google Fiber, and its line of smart home devices respectively24. Google owns 8% of the global created by Nest. One of the more interesting cloud market and looks to take over Microsoft’s Other Bets to watch is Waymo, Alphabet’s bet on position by 202424. The Google Cloud division the future of driverless cars. Waymo is already also has hired former SAP executives to help looking into shaking up the trucking industry by them reach more customers to sell their cloud working on integrating their self-driving services. technology into driving fully-loaded trucks with trailers26. Artificial intelligence looks to be an essential tool for Alphabet going forward. Alphabet has said in Catalysts for Growth the past two quarterly reports that they are A major growth opportunity is YouTube. This focused on investments in AI to help improve platform is growing exponentially and will Google Cloud, YouTube, and Google assistant. continue over the next few years. In 2019’s third

10 For Google Cloud, AI is being used mostly in the healthcare industry to allow doctors and Valuation Analysis healthcare providers to learn more about drugs and improve the outcome and overall quality of healthcare. AI for YouTube is supposed to help Revenue Decomposition protect against hate speech, by flagging and Alphabet generates nearly all of their revenues removing videos. from advertising revenue. The remaining revenue comes from other Google run services like Alphabet recently announced a new partnership Google Cloud, Google Play, and Google with the Mayo Clinic and Ascension, the nation’s assistant. Most ads by Google are tailored second largest healthcare system, to securely specifically to the individual because they track store their data in Google Cloud and help doctors different areas of internet usage to try and diagnose more accurately and help hospitals increase the ad click rate. Alphabet does this operate more effectively37. Google also recently through brand advertising and performance stated they are venturing with Citibank to create advertising. a Google checking account called “Cache” that will look to launch next year. In the next few years, we expect Alphabet’s advertising revenues to decrease from 85% of Key Investment Positives and Negatives total revenues to 78% of total revenue by 2025. Alphabet’s over main segment is Google’s other Positives revenue which includes the Google Play store, We feel Alphabet is making the right moves for Google Cloud, hardware, and other future long-term growth and stability. They are miscellaneous products and services12. In our investing in Google Cloud and YouTube, which model, we have Alphabet’s advertising revenues are services that will be in the forefront of growth decreasing over time because of new government in the future. Since they rely on advertising regulation similar to GDPR. This future decrease revenue currently, this diversification will help will reflect the increase in competition in the them when new government regulation is put into online digital market due to Alphabet’s overall effect. decrease in market share. Due to these government regulations, Google’s other revenues Negatives will increase as a percent of total revenues by our Google is being scrutinized to see if they are continuing value year of 2025. Other Bets limiting competitors from advertising on their continues to increase as a percent of total sites and limiting competition. Due to the revenues because Alphabet has many projects severity of the allegations, we are predicting that that are in development like Waymo and Verily new regulations will come into place that could that we believe will help Other Bets generate potentially break up Google’s ad market more revenue. Other Bets as of 2019 accounts for dominance and force Google to allow companies 0.50% of Alphabet’s total revenues and we like Yahoo, Amazon, Facebook, and many others expect Other Bets to increase to 1.10% of to put ads on Google owned sites like YouTube. Alphabets revenues by 2025. This increase in competition for advertising revenue will have a negative effect on revenues coming into effect in 2023 with an EU GDPR like law. In our valuation model, we see this decrease in growth coming from overall advertising revenue (Google Properties + Google Network Members’ properties).

(Figure 14: Alphabet’s Estimated Revenues)

11 position is through pouring extensive amounts of Operating Expenses money into R&D. Over the past 3 years, Alphabet has spent roughly 15% of revenues on R&D. We Cost of Revenues are forecasting Alphabet to increase R&D as a Alphabet reports their cost of revenues as a percentage of revenues to 17%, and for this to combination of overall Costs of Goods Sold stay steady until our CV year of 2025. A large (COGS) and their depreciation amortization. For portion of R&D for future years is Google’s our valuation purposes, we split depreciation and continuing build out of cloud storage facilities, amortization from COGS to better forecast costs especially at a planned facility in Poland and related to revenues and to base depreciation off of other parts of Europe34. Figure 29 on page 6 of property, plant and equipment. We calculated our our report gives an excellent look at how depreciation rate by taking the depreciation and Alphabet’s R&D expense compares with similar amortization expense from 2018, and dividing it companies. from property, plant and equipment (PP&E) on our balance sheet in 2017. This rate came out to Selling and Marketing Expense be 21.32%, which we multiplied by the previous Alphabet’s sales and marketing primarily consist year’s PP&E and kept that consistent throughout of advertising and promotional expenses related our model. to their products and services, and the compensation for their employees who engage in Most of Alphabet’s costs are associated with sales or marketing roles. We looked at Alphabet’s Traffic Acquisition Costs (TAC), which are selling and marketing expenses from the past few primarily paid to Google Network Members for years and noticed a continual incline as a ads displayed on their properties and amounts percentage of revenues. We took this trend and paid to their distribution partners, like internet used 12.5% of revenues as our rate for selling and browser providers, mobile carriers, and software marketing expense, as this expense is highly developers. Cost of Revenues, minus correlated with revenues. depreciation and amortization, was roughly 37% of revenues for 2018. Alphabet mentioned in their General and Administrative (G&A) Expense last 10-K that they believed TAC for Google Alphabet’s general and administrative expenses Network Members and TAC for Google are one of their lowest overall expenses and has properties will rise over the next few years. been declining over the past 3 years from 7.8% of revenues in 2016, to 5.94% of revenues in 2018. We applied Alphabet’s manager’s guidance We project Alphabet to continue this trend in our within our model and increased COGS to 38% of model by keeping G&A expense to 6% of revenues and kept that consistent until our CV revenues until 2022, and then decline slightly to year in 2025 where we forecasted our CV rate to 5.5% of revenues until our CV year of 2025 with be 39%. Our forecasts predict a shift in a final rate of 5% of revenues. We are forecasting Alphabet’s revenue composition, with this decline as Alphabet continues to maximize advertising revenues slightly decreasing from the value of their employees and integrate more 85% to 78% of total revenues. We feel that of their AI technology to create more efficiencies keeping our COGS at a consistent rate of 38% of within their workforce. revenues is justified as TAC rates for their ad services increase, but their overall advertising Weighted Average Cost of Capital (WACC) business slows with potential regulation. This We do not foresee Alphabet changing their cost rate is also accounting for Alphabet’s capital structure in the near future. Due to this, we expansion in Other Bets, operating YouTube, and used a 6.40% WACC throughout our valuation operating their expanded cloud services. model. WACC is calculated by multiplying the weight of equity times the cost of equity plus the Research and Development (R&D) Expense weight of debt times one minus the marginal tax Alphabet is one of the most dominant companies rate times the cost of debt. in the world, and one of the reasons they hold this

12 Cost of Equity does not distribute dividends which causes this In order to calculate the cost of equity, we used low valuation compared to the current stock price the Capital Asset Pricing Model (CAPM) of $1,334, we put little emphasis on this model. formula. The CAPM formula is comprised of a risk-free rate, a market risk premium, and DCF and EP Models Alphabet’s beta. For the risk-free rate, we took The Discounted Cash Flow and Economic Profit the U.S. government’s 10-year treasury bond as models are calculated by taking Free Cash Flows of Friday, November 15th. The return of the 10- and discounting them back to the current year year treasury is 1.83%. The equity risk premium using the WACC. In the continuing year, we that we used is 4.69%. This is the historical calculated the value of the firm using our CV geometric return of the stock market for the past growth rate of 3.18%, the CV ROIC of 33.54%, 90 years. Beta was found through Bloomberg and our WACC rate of 6.40%. The total value of using a three-year, monthly average, which equity after adding the value of non-operating equaled 0.984. Our cost of equity equaled 6.44%. assets and subtracting non-operating liabilities This was calculated by multiplying 0.984 by our equals 1,067 billion. We then divided this number equity risk premium of 4.69% and then adding by the shares outstanding of 0.75 billion. The our risk-free rate of 1.83%. intrinsic value of the stock equaled $1,523. After a partial year adjustment, the stock price rose to Cost of Debt $1,608. We believe that these models are the best To calculate our cost of debt, we used Apple’s 30- way to value Alphabet based on the limitations of year bond yield which is 3.22%. We decided to the DDM. use Apple’s bond yield because Alphabet does not have a bond that reaches this time horizon. Relative Valuation Both companies are rated AA+. To calculate Alphabet is a very large firm that operates in after-tax cost of debt, we multiplied this bond different industries. This makes it very difficult to yield by 1 minus the marginal tax rate. This gave compare Alphabet to rivaling firms. Alphabet’s us an after-tax cost of debt of 2.54%. main competitors are Facebook, Microsoft, Apple Inc., Alibaba, and Amazon. All these firms Capital Weights have a stock price between $140-$250, besides To calculate the total value of the firm, we found Amazon who has a stock price of $1800. When the market value of debt and equity. The market including Amazon in the P/E estimate, we value of equity is calculated by multiplying the calculated a relative P/E in 2019 for Alphabet of stock price by the shares outstanding. This gave $1,246.77. We believe this is not a good us a total equity value of 995.28 billion. To estimation of Alphabet’s intrinsic value. After calculate the total value of debt, we used the book examining our relative valuation, we determined value of debt plus the current value of operating that Alphabet has a much larger reach into leases. This added up to equal 11.96 billion. We different areas than its competitors and the added those numbers together to get the total relative models do not compare Alphabet justly. value of Alphabet and this equals 1,007.24 billion. Then we divided both the equity and debt Sensitivity Analysis values by the total value to get a percent of the firm's total value. Our weight of equity equals Equity Risk Premium vs. Beta 98.81% and our weight of debt equals 1.19%. Our first sensitivity table compared beta and risk premium to test the sensitivity of our intrinsic Dividend Discount Model (DDM) value to changes in these variables. We see in the We calculated a target price using the DDM, but table that as beta drops and risk premium drops, we believe that the target price is not a realistic the stock price rises quickly and vice versa. way to measure Alphabet’s intrinsic value since Alphabet does not have a lot of debt which is they do not pay dividends. The DDM considered evident by the 1.19% weight on debt. This shows Alphabet an overvalued company as it gave us an a very large effect due to changes in the cost of intrinsic value of $1,157.06. Because Alphabet equity. The beta increases when Alphabet takes

13 on more risk, usually meaning they raise the its risk is less associated with the risk of the amount of debt they have. These directly affect market, making it less volatile. Alphabet’s R&D the WACC, which goes into the DCF and EP expense as a percent of revenue will no doubt rise model to calculate a stock price. and fall over the next few years, but we feel comfortable with keeping a continuous rate of 39% as an average of the potential differences in year to year changes.

CV Revenue Growth vs. CV COGS (% of Revenues) There is an inverse relationship between intrinsic value and cost of goods sold as a percent of Cost of Equity vs. Cost of Debt revenues. As revenue growth increases, the stock Cost of equity has a significant impact on the price increases and as COGS increases, the stock intrinsic value. This is due to the large weight of price decreases. Our revenue growth has more equity in the value of the firm. As the cost of impact on the stock price because CV revenue equity decreases, the intrinsic value increases, growth is used in the DCF and EP models to and this is the same for the cost of debt. Cost of calculate the stock price. debt has a much smaller effect on the intrinsic value because the weight of debt is 1.19%.

Net PP&E as a % of Revenue vs. Beta In this sensitivity table, the intrinsic value the table provides does not quite match the intrinsic value from our DCF and EP model. This is because the table doesn’t incorporate our Net PP&E CV rate in the final year, but it still provides a value that is very close to our intrinsic value. With this table you can see that as Net PP&E as a percent of revenue increases, the price of Alphabet increases. As Alphabet’s Beta decreases, the value of the company increases as

14 Marginal Tax Rate vs. Risk-Free Rate The table comparing the tax rate to the risk-free rate shows a lot about how taxes affect Alphabet. As the marginal tax rate and the risk-free rate decreases, the intrinsic value of the firm grows. This is because Alphabet would be paying less money in taxes every year, which creates a larger net income which leads to larger NOPLAT. If Alphabet can get a lower effective tax rate than their marginal tax rate, they will be able to increase their intrinsic value. A lower risk-free rate leads to a smaller WACC. A lower WACC leads to a higher intrinsic value.

Important Disclaimer

This report was created by students enrolled in the Applied Equity Valuation (FIN:4250) 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.

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19 Beta Cost of Equity 1523 0.79 0.84 0.89 0.98 0.99 1.04 1.09 1523 6.00% 6.15% 6.30% 6.45% 6.60% 6.75% 6.90% 3.44% 3403 3040 2750 2339 2318 2152 2010 0.02% 1744 1664 1592 1528 1466 1412 1362 3.69% 2993 2694 2453 2105 2087 1945 1822 0.53% 1743 1663 1591 1527 1466 1411 1361 3.94% 2675 2423 2217 1917 1901 1777 1670 1.03% 1741 1661 1589 1526 1465 1411 1361 4.19% 2422 2205 2025 1762 1748 1639 1543 1.54% 1739 1660 1588 1525 1464 1410 1360 4.44% 2216 2025 1867 1633 1620 1522 1437 2.04% 1738 1659 1587 1524 1463 1409 1359 4.69% 2044 1875 1734 1523 1512 1423 1346 2.54% 1736 1657 1586 1523 1462 1408 1359 4.94% 1899 1747 1620 1429 1419 1338 1267 3.05% 1734 1656 1585 1522 1461 1408 1358 Risk PremiumRisk 5.19% 1776 1638 1522 1347 1338 1263 1198 Debt of Cost 3.55% 1732 1654 1583 1521 1460 1407 1357 5.44% 1668 1542 1436 1276 1267 1198 1138 4.06% 1731 1652 1582 1520 1459 1406 1357 5.69% 1575 1459 1361 1212 1204 1140 1084 4.56% 1729 1651 1580 1519 1458 1405 1356 5.94% 1492 1385 1294 1156 1148 1089 1036 5.07% 1727 1649 1579 1517 1457 1404 1355

Revenue CV Growth Marginal Tax 1523 1.68% 2.18% 2.68% 3.18% 3.68% 4.18% 4.68% 1523 18% 19% 20% 21% 22% 23% 24% 35% 1380 1482 1611 1779 2011 2348 2880 0.83% 2211 2180 2149 2119 2088 2058 2027 36% 1336 1433 1555 1715 1936 2255 2760 1.08% 2008 1980 1953 1925 1898 1870 1843 37% 1293 1384 1500 1651 1860 2162 2640 1.33% 1842 1817 1792 1767 1742 1717 1692 38% 1249 1335 1445 1587 1784 2069 2520 1.58% 1704 1681 1658 1635 1612 1589 1566 39% 1206 1286 1389 1523 1708 1976 2400 1.83% 1587 1566 1545 1523 1502 1481 1459

COGS CV COGS 40% 1162 1238 1334 1459 1632 1883 2280 2.08% 1487 1467 1447 1428 1408 1388 1368

41% 1118 1189 1278 1395 1557 1790 2160 Risk-FreeRate 2.33% 1400 1382 1363 1345 1326 1308 1289 42% 1075 1140 1223 1331 1481 1697 2040 2.58% 1324 1307 1290 1272 1255 1238 1220 43% 1031 1091 1168 1267 1405 1604 1920 2.83% 1257 1241 1225 1208 1192 1176 1159

Net PPE as a Perect of Revenue 1523 36% 37% 38% 39% 40% 41% 42% 0.58 3505 3457 3408 3359 3311 3262 3213 0.68 2663 2626 2589 2551 2514 2477 2439 0.78 2163 2132 2102 2071 2040 2010 1979 0.88 1831 1805 1779 1753 1727 1700 1674 0.98 1595 1572 1549 1526 1503 1480 1458 Beta 1.08 1419 1398 1378 1357 1337 1316 1296 1.18 1282 1263 1244 1226 1207 1189 1170 1.28 1173 1155 1138 1121 1104 1087 1070 1.38 1083 1068 1052 1036 1020 1004 988 Alphabet Inc. Revenue Decomposition (All numbers in Billions of $) Fiscal Years Ending Dec. 31 2016 2017 2018 2019E 2020E 2021E 2022E 2023E 2024E 2025CV Google Segment Google properties 63.79 77.79 96.34 114.64 136.43 150.07 165.08 175.81 187.23 192.38 Google properties Growth rate 22% 22% 24% 19.00% 19.00% 10.00% 10.00% 6.50% 6.50% 2.75% Google Network Members' properties 15.60 17.59 19.98 21.88 23.96 25.39 26.92 27.99 29.11 29.70 revenues Google Network Members' properties 4% 13% 14% 9.5% 9.5% 6.0% 6.0% 4.0% 4.0% 2.0% revenues Growth Rate Google advertising revenues 79.38 95.38 116.32 136.52 160.38 175.46 191.99 203.80 216.35 222.08 Google other revenues 10.60 15.00 19.91 24.89 31.11 37.33 44.80 49.73 55.19 57.95 Google other revenues Growth Rate 48% 42% 33% 25.0% 25.0% 20.0% 20.0% 11.0% 11.0% 5.0%

Google segment revenues 89.98 110.38 136.22 161.41 191.49 212.79 236.79 253.53 271.54 280.03

Other Bets Other Bets revenues 0.29 0.48 0.60 0.81 1.09 1.42 1.85 2.31 2.89 3.12 Other Bets revenues Growth Rate -36% 66% 25% 35% 35% 30% 30% 25% 25% 8%

Motorola Mobile Total Motorola Mobile Revenues 0.00 0.00 0.00

Revenues 90.27 110.86 136.82 162.22 192.59 214.22 238.64 255.84 274.43 283.15 Total Revenue Growth Rate 20% 23% 23% 18.56% 18.72% 11.23% 11.40% 7.21% 7.27% 3.18%

Paid clicks change 32% 54% 62% Cost-per-click -11% -21% -25%

Geographical Breakdown EMEA 31.12 36.23 43.40 APAC 12.17 16.22 21.29 Other Americas 4.94 6.00 8.01 United States 42.78 52.45 63.27 Alphabet Inc. Balance Sheet (All numbers in Billions of $) Fiscal Years Ending Dec. 31 2016 2017 2018 2019E 2020E 2021E 2022E 2023E 2024E 2025CV Assets Current Assets Cash and cash equivalents 12.92 10.72 16.70 35.45 47.58 66.68 87.71 114.70 145.27 180.25 Marketable Securities 73.42 91.16 92.44 94.29 96.17 98.10 100.06 102.06 104.10 106.18 Total cash, cash equivalents, and marketable securities 86.33 101.87 109.14 129.73 143.75 164.78 187.77 216.76 249.37 286.43 Accounts Receivables, net of allowances of $674 and $729 14.14 18.34 20.84 25.14 29.85 33.20 36.99 39.65 42.54 42.47 Income taxes receivables, net 0.10 0.37 0.36 0.36 0.37 0.38 0.38 0.39 0.40 0.41 Total Receivables 14.23 18.71 21.19 25.51 30.22 33.58 37.37 40.05 42.94 42.88 Inventories 0.27 0.75 1.11 1.33 1.58 1.76 1.96 2.10 2.25 2.32 Other Current Assets 4.58 2.98 4.24 4.26 4.29 4.32 4.35 4.38 4.41 4.44 Total Current Assets 105.41 124.31 135.68 160.84 179.84 204.44 231.45 263.28 298.96 336.07 Non-marketable investments 5.88 7.81 13.86 12.17 14.44 16.07 17.90 19.19 20.58 22.65 Deferred income taxes 0.38 0.68 0.74 0.85 1.01 1.13 1.25 1.35 1.44 1.49 Property and equipment, net 34.23 42.38 59.72 63.47 75.36 83.82 93.38 100.10 107.38 107.60 Intangible assets, net 3.31 2.69 2.22 2.15 2.09 2.03 1.96 1.90 1.85 9.24 Goodwill 16.47 16.75 17.89 17.89 17.89 17.89 17.89 17.89 17.89 17.89 Other non-current assets 0.42 2.67 2.69 3.24 3.85 4.28 4.77 5.12 5.49 5.66 Total Assets 167.50 197.30 232.79 260.61 294.48 329.65 368.60 408.83 453.59 500.60 Liabilities & Shareholders' Equity Current Liabilities Accounts Payable 2.04 3.14 4.38 5.35 6.36 7.07 7.88 8.44 9.06 9.34 Accrued compensation and benefits 3.98 4.58 6.84 8.11 9.63 10.71 11.93 12.79 13.72 14.16 Accrued expenses & other current liabilities 6.14 10.18 16.96 21.90 26.00 28.92 32.22 34.54 37.05 43.89 Accrued revenue share 2.94 3.98 4.59 5.43 6.45 7.18 7.99 8.57 9.19 9.49 Deferred revenue 1.10 1.43 1.78 2.13 2.52 2.81 3.13 3.35 3.60 3.71 Income taxes payable, net 0.55 0.88 0.07 0.11 0.14 0.15 0.17 0.18 0.20 0.20 ST Debt & Curr. Portion LT Debt 0.00 0.00 0.00 0.00 0.01 1.00 0.00 0.00 1.00 0.00 Total Current Liabilities 16.76 24.18 34.62 43.04 51.11 57.84 63.32 67.88 73.81 80.78 Long-Term Liabilities Long-Term Debt 3.94 3.97 4.01 4.14 4.28 4.42 4.56 4.71 4.86 5.02 Deferred revenue, non-current 0.20 0.34 0.40 0.41 0.48 0.54 0.60 0.64 0.69 0.71 Income taxes payable, non-current 4.68 12.81 11.33 10.19 9.17 8.26 7.43 6.69 6.02 6.14 Deferred income taxes 0.23 0.43 1.26 1.28 1.29 1.31 1.32 1.34 1.35 1.37 Other long-term liabilities 2.67 3.06 3.55 4.06 4.81 5.36 5.97 6.40 6.86 7.08 Total Liabilities 28.46 44.79 55.16 63.11 71.15 77.71 83.19 87.65 93.59 101.10 Shareholders' Equity Preferred Stock 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 Class A and Class B common stock 36.31 40.25 45.05 39.18 33.31 27.43 21.56 15.69 9.82 3.95 Accumulated other comprehensive income (loss) -2.40 -0.99 -2.31 -2.31 -2.31 -2.31 -2.31 -2.31 -2.31 -2.31 Retained Earnings 105.13 113.25 134.89 160.63 192.33 226.81 266.15 307.80 352.49 397.86 Total Shareholders' Equity 139.04 152.50 177.63 197.50 223.33 251.94 285.41 321.18 360.00 399.50 Total Liabilities & Shareholders' Equity 167.50 197.30 232.79 260.61 294.48 329.65 368.60 408.83 453.59 500.60 Alphabet Inc. Income Statement (All numbers in Billions of $) Fiscal Years Ending Dec. 31 2016 2017 2018 2019E 2020E 2021E 2022E 2023E 2024E 2025CV Revenues 89.73 111.02 136.96 162.22 192.59 214.22 238.64 255.84 274.43 283.15 Costs and Expenes: Cost of Goods Sold (COGS) 29.00 38.67 50.52 61.64 73.18 81.40 90.68 97.22 104.28 110.43 Depreciation & Amortization 6.14 6.92 9.04 12.73 13.53 16.06 17.87 19.91 21.34 22.89 SG&A Expense: 31.42 36.39 45.88 57.59 68.37 76.05 83.52 89.54 96.05 94.86 R&D Expense 13.95 16.63 21.42 27.58 32.74 36.42 40.57 43.49 46.65 46.72 Sales & Marketing Expense 10.49 12.89 16.33 20.28 24.07 26.78 29.83 31.98 34.30 33.98 General and Administrative Expense 6.99 6.87 8.13 9.73 11.56 12.85 13.13 14.07 15.09 14.16 Nonoperating Income - Net 1.47 1.11 4.40 2.43 2.89 3.21 3.58 3.84 4.12 2.83 Interest Expense 0.12 0.11 0.11 0.10 0.26 0.27 0.35 0.29 0.30 0.37 Unusual Expense - Net 0.38 2.86 0.90 0.00 0.00 0.00 0.00 0.00 0.00 0.00 Income before income taxes 24.13 27.20 34.92 32.59 40.13 43.64 49.80 52.72 56.57 57.43 Income Taxes 4.67 14.53 4.18 6.84 8.43 9.16 10.46 11.07 11.88 12.06 Other After Tax Adjustments 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 Net Income 19.48 12.66 30.74 25.75 31.70 34.48 39.34 41.65 44.69 45.37 Discontinued Operations 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 Net Income available to Common Stock Holders 19.48 12.66 30.74 25.75 31.70 34.48 39.34 41.65 44.69 45.37 Per Share Basic EPS $ 28.32 $ 18.27 $ 44.22 $ 34.53 $ 42.75 $ 46.74 $ 53.60 $ 57.01 $ 61.45 $ 62.65 Total Shares Outstanding 0.75 0.75 0.75 0.75 0.74 0.74 0.73 0.73 0.73 0.72 Dividends per share 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 Alphabet Inc. Cash Flow Statement (All numbers in Billions of $) Fiscal Years Ending Dec. 31 2019E 2020E 2021E 2022E 2023E 2024E 2025CV Cash Flow From Operating Activities Net Income 25.75 31.70 34.48 39.34 41.65 44.69 45.37 Adjustments to reconcile net income to net cash Add: Depreciation and amortization 12.73 13.53 16.06 17.87 19.91 21.34 22.89 Change in Deferred Income Taxes -0.10 -0.15 -0.10 -0.11 -0.08 -0.08 -0.03 Changes in working capital accounts: Change in receivables (4.31) (4.71) (3.35) (3.79) (2.67) (2.88) 0.06 Change in income taxes receivable (0.01) (0.01) (0.01) (0.01) (0.01) (0.01) (0.01) Change in inventories (0.22) (0.25) (0.18) (0.20) (0.14) (0.15) (0.07) Change in other current assets (0.03) (0.03) (0.03) (0.03) (0.03) (0.03) (0.03) Change in accounts payable 0.98 1.00 0.71 0.81 0.57 0.61 0.29 Change in accrued accounts 7.06 6.64 4.73 5.34 3.76 4.06 7.57 Change in income taxes payable (1.09) (0.99) (0.91) (0.80) (0.73) (0.66) 0.12 Deferred revenue 0.35 0.47 0.34 0.38 0.27 0.29 0.14 Net Cash provided by operating activites 41.10 47.21 51.75 58.79 62.49 67.19 76.30 Cash Flows From Investing Activites Change in marketable securities (1.85) (1.89) (1.92) (1.96) (2.00) (2.04) (2.08) Change in non-marketable investments 1.69 (2.28) (1.62) (1.83) (1.29) (1.39) (2.07) Change in capital expenditures (16.49) (25.41) (24.53) (27.42) (26.63) (28.62) (23.11) Change in intangible assets 0.07 0.06 0.06 0.06 0.06 0.06 (7.39) Change in other assets (0.55) (0.61) (0.43) (0.49) (0.34) (0.37) (0.17) Net cash used for investing activities (17.13) (30.12) (28.44) (31.65) (30.21) (32.37) (34.82) Cash Flows From Financing Activities Payments of notes payable and long-term debt 0.13 0.13 0.14 0.14 0.15 0.15 0.16 Repurchase of common stock (5.871) (5.871) (5.871) (5.871) (5.871) (5.871) (5.871) Change in current portion of long term debt - 0.014 0.989 (1.000) - 0.997 (1.000) Change in other long term liabilities 0.511 0.759 0.541 0.611 0.430 0.465 0.218 Net cash provided by financing activities (5.23) (4.96) (4.20) (6.12) (5.29) (4.26) (6.50) Change in Cash 18.75 12.13 19.10 21.03 26.99 30.57 34.98 Cash Beginning of Year 16.70 35.45 47.58 66.68 87.71 114.70 145.27 Cash, End of Year 35.45 47.58 66.68 87.71 114.70 145.27 180.25 Alphabet Inc. Cash Flow Statement (All numbers in Billions of $) Fiscal Years Ending Dec. 31 2016 2017 2018 Operating Activities Net Income / Starting Line 19.48 12.66 30.74 Depreciation, Depletion & Amortization 6.14 6.92 9.04 Deferred Income Taxes -0.04 0.26 0.78 Allowance for Doubtful Accounts Changes in Working Capital Receivables -2.58 -3.77 -2.17 Inventories - - - Accounts Payable 0.11 0.73 1.07 Income Taxes Payable 3.13 8.21 -2.25 Other Accruals 2.11 5.85 9.10 add accrued all together Other Assets/Liabilities 0.54 -1.77 -0.84 add deferred and other assets together Net Operating Cash Flow 36.04 37.09 47.97 Investing Activities Capital Expenditures (Fixed Assets) -10.21 -13.18 -25.14 Net Assets from Acquisitions -0.99 -0.29 -1.49 Sale of Fixed Assets & Businesses 0.24 0.10 0.10 Purchase/Sale of Investments -17.78 -19.45 -1.97 Purchase of Investments 85.62 93.94 52.23 Sale/Maturity of Investments 67.84 74.49 50.26 Other Funds -2.43 1.42 0.00 Other Uses -2.43 0.00 0.00 Other Sources 0.00 1.42 0.00 Net Investing Cash Flow -31.17 -31.40 -28.50 Financing Activities Repurchase of Common & Preferred Stk. -3.69 -4.846 -9.08 Issuance/Reduction of Debt, Net -1.34 -0.09 -0.06 Change in Current Debt 0.00 0.00 0.00 Change in Long-Term Debt -1.34 -0.09 -0.06 Issuance of Long-Term Debt 8.73 4.29 6.77 Reduction in Long-Term Debt -10.06 -4.38 -6.83 Other Funds -3.30 -3.37 -4.04 Other Uses -3.30 -4.17 -4.99 Other Sources 0.00 0.80 0.95 Net Financing Cash Flow -8.33 -8.30 -13.18

Exchange Rate Effect -0.17 0.41 -0.30

Net Change in Cash -3.63 -2.20 5.99

Free Cash Flow 25.82 23.91 22.83 Alphabet Inc. Income Statement (All numbers in Billions of $) Fiscal Years Ending Dec. 31 2016 2017 2018 2019E 2020E 2021E 2022E 2023E 2024E 2025CV Revenues 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% Costs and Expenes: Cost of Goods Sold (COGS) 32.31% 34.83% 36.88% 38.00% 38.00% 38.00% 38.00% 38.00% 38.00% 39.00% Depreciation & Amortization 6.85% 6.23% 6.60% 7.85% 7.03% 7.50% 7.49% 7.78% 7.78% 8.08% SG&A Expense: 35.02% 32.78% 33.50% 35.50% 35.50% 35.50% 35.00% 35.00% 35.00% 33.50% R&D Expense 15.55% 14.97% 15.64% 17.00% 17.00% 17.00% 17.00% 17.00% 17.00% 16.50% Sales & Marketing Expense 11.69% 11.61% 11.92% 12.50% 12.50% 12.50% 12.50% 12.50% 12.50% 12.00% General and Administrative Expense 7.79% 6.19% 5.94% 6.00% 6.00% 6.00% 5.50% 5.50% 5.50% 5.00% Nonoperating Income - Net 1.64% 1.00% 3.21% 1.50% 1.50% 1.50% 1.50% 1.50% 1.50% 1.00% Interest Expense 0.13% 0.10% 0.08% 0.06% 0.14% 0.13% 0.15% 0.11% 0.11% 0.13% Unusual Expense - Net 0.42% 2.58% 0.66% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% Income before income taxes 26.89% 24.50% 25.50% 20.09% 20.84% 20.37% 20.87% 20.61% 20.61% 20.28% Income Taxes 5.20% 13.09% 3.05% 4.22% 4.38% 4.28% 4.38% 4.33% 4.33% 4.26% Other After Tax Adjustments 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% Net Income 21.71% 11.40% 22.44% 15.87% 16.46% 16.09% 16.49% 16.28% 16.29% 16.02% Discontinued Operations 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% Net Income available to Common Stock Holders 21.71% 11.40% 22.44% 15.87% 16.46% 16.09% 16.49% 16.28% 16.29% 16.02% Alphabet Inc. Common Size Balance Sheet (All numbers in Billions of $) Fiscal Years Ending Dec. 31 2016 2017 2018 2019E 2020E 2021E 2022E 2023E 2024E 2025CV Assets Percent of Sales Current Assets Cash and cash equivalents 14.40% 9.65% 12.19% 21.85% 24.70% 31.13% 36.75% 44.83% 52.93% 63.66% Marketable Securities 81.82% 82.11% 67.49% 58.12% 49.94% 45.79% 41.93% 39.89% 37.93% 37.50%

Total cash, cash equivalents, and marketable 96.21% 91.76% 79.69% 79.97% 74.64% 76.92% 78.68% 84.73% 90.87% 101.16% securities

Accounts Receivables, net of allowances of $674 15.76% 16.52% 15.21% 15.50% 15.50% 15.50% 15.50% 15.50% 15.50% 15.00% and $729 Income taxes receivables, net 0.11% 0.33% 0.26% 0.22% 0.19% 0.18% 0.16% 0.15% 0.15% 0.14% Inventories 0.30% 0.67% 0.81% 0.82% 0.82% 0.82% 0.82% 0.82% 0.82% 0.82% Other Current Assets 5.10% 2.69% 3.09% 2.63% 2.23% 2.02% 1.82% 1.71% 1.61% 1.57% Total Current Assets 117.47% 111.97% 99.06% 99.15% 93.38% 95.43% 96.99% 102.91% 108.94% 118.69% Non-marketable investments 6.55% 7.04% 10.12% 7.50% 7.50% 7.50% 7.50% 7.50% 7.50% 8.00% Deferred income taxes 0.43% 0.61% 0.54% 0.53% 0.53% 0.53% 0.53% 0.53% 0.53% 0.53% Property and equipment, net 38.15% 38.18% 43.60% 39.13% 39.13% 39.13% 39.13% 39.13% 39.13% 38.00% Intangible assets, net 3.69% 2.42% 1.62% 1.33% 1.08% 0.95% 0.82% 0.74% 0.67% 3.26% Goodwill 18.35% 15.08% 13.06% 11.03% 9.29% 8.35% 7.50% 6.99% 6.52% 6.32% Other non-current assets 0.47% 2.41% 1.97% 2.00% 2.00% 2.00% 2.00% 2.00% 2.00% 2.00% Total Assets 186.67% 177.71% 169.97% 160.65% 152.91% 153.88% 154.46% 159.80% 165.28% 176.79% Liabilities & Shareholders' Equity 0.00% 0.00% 0.00% Current Liabilities 0.00% 0.00% 0.00% Accounts Payable 2.27% 2.83% 3.20% 3.30% 3.30% 3.30% 3.30% 3.30% 3.30% 3.30% Accrued compensation and benefits 4.43% 4.13% 4.99% 5.00% 5.00% 5.00% 5.00% 5.00% 5.00% 5.00% Accrued expenses & other current liabilities 6.85% 9.17% 12.38% 13.50% 13.50% 13.50% 13.50% 13.50% 13.50% 15.50% Accrued revenue share 3.28% 3.58% 3.35% 3.35% 3.35% 3.35% 3.35% 3.35% 3.35% 3.35% Deferred revenue 1.22% 1.29% 1.30% 1.31% 1.31% 1.31% 1.31% 1.31% 1.31% 1.31% Income taxes payable, net 0.62% 0.79% 0.05% 0.07% 0.07% 0.07% 0.07% 0.07% 0.07% 0.07% ST Debt & Curr. Portion LT Debt 0.00% 0.00% 0.00% 0.00% 0.01% 0.47% 0.00% 0.00% 0.36% 0.00% Total Current Liabilities 18.67% 21.78% 25.28% 26.53% 26.54% 27.00% 26.53% 26.53% 26.90% 28.53% Long-Term Liabilities 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% Long-Term Debt 4.39% 3.58% 2.93% 2.55% 2.22% 2.06% 1.91% 1.84% 1.77% 1.77% Deferred revenue, non-current 0.23% 0.31% 0.29% 0.25% 0.25% 0.25% 0.25% 0.25% 0.25% 0.25% Income taxes payable, non-current 5.21% 11.54% 8.27% 6.28% 4.76% 3.85% 3.11% 2.61% 2.19% 2.17% Deferred income taxes 0.25% 0.39% 0.92% 0.79% 0.67% 0.61% 0.55% 0.52% 0.49% 0.48% Other long-term liabilities 2.97% 2.76% 2.59% 2.50% 2.50% 2.50% 2.50% 2.50% 2.50% 2.50% Total Liabilities 31.72% 40.35% 40.28% 38.91% 36.95% 36.27% 34.86% 34.26% 34.10% 35.70% Shareholders' Equity 0.00% 0.00% 0.00% Preferred Stock 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% Class A and Class B common stock 40.46% 36.25% 32.89% 24.15% 17.29% 12.81% 9.04% 6.13% 3.58% 1.39% Accumulated other comprehensive income (loss) -2.68% -0.89% -1.68% -1.42% -1.20% -1.08% -0.97% -0.90% -0.84% -0.81% Retained Earnings 117.16% 102.01% 98.48% 99.02% 99.87% 105.88% 111.53% 120.31% 128.44% 140.51% Total Shareholders' Equity 154.95% 137.36% 129.69% 121.75% 115.96% 117.61% 119.60% 125.54% 131.18% 141.09% Alphabet Inc. Value Driver Estimation

Fiscal Years Ending Dec. 31 2016 2017 2018 2019E 2020E 2021E 2022E 2023E 2024E 2025CV NOPLAT Computation Net Sales 89.73 111.02 136.96 162.22 192.59 214.22 238.64 255.84 274.43 283.15 Cost of goods sold -22.85 -31.75 -41.48 -61.64 -73.18 -81.40 -90.68 -97.22 -104.28 -110.43 SG&A -31.42 -36.39 -45.88 -57.59 -68.37 -76.05 -83.52 -89.54 -96.05 -94.86 Depreciation and Amoritization -6.14 -6.92 -9.04 -12.73 -13.53 -16.06 -17.87 -19.91 -21.34 -22.89 Implied Interest on Operating Leases 0.17 0.18 0.20 0.43 0.43 0.43 0.43 0.43 0.43 0.43 EBITA 29.48 36.14 40.76 30.69 37.93 41.13 46.99 49.60 53.19 55.41 Less Adjusted Taxes Income Taxes 4.67 14.53 4.18 6.84 8.43 9.16 10.46 11.07 11.88 12.06 Tax Shield on Interest Expense 1.59 4.94 0.04 0.03 0.09 0.09 0.12 0.10 0.10 0.13 Tax Shield on Unusual Expense 0.13 0.97 0.19 0.00 0.00 0.00 0.00 0.00 0.00 0.00 Tax Shield on Nonoperating Income -0.69 -0.77 -0.08 -0.49 -0.39 -0.33 -0.25 -0.19 -0.14 -0.41 Tax Shield on Implied Lease Interest 0.32 0.33 0.21 0.42 0.42 0.42 0.42 0.42 0.42 0.42 Adjusted Taxes 6.02 20.00 4.54 6.81 8.55 9.36 10.75 11.40 12.27 12.21 Change in Deferred Liabilities -0.10 -0.09 0.78 -0.10 -0.15 -0.10 -0.11 -0.08 -0.08 -0.03

NOPLAT 23.37 16.05 37.00 23.77 29.24 31.68 36.13 38.13 40.83 43.17

Invested Capital Computation Operating Current Assets Cash 1.79 2.22 2.74 3.24 3.85 4.28 4.77 5.12 5.49 5.66 Accounts Receivable 14.14 18.34 20.84 25.14 29.85 33.20 36.99 39.65 42.54 42.47 Income taxes receivables, net 0.10 0.37 0.36 0.36 0.37 0.38 0.38 0.39 0.40 0.41 Other Current Assets 4.575 2.983 4.236 4.26 4.29 4.32 4.35 4.38 4.41 4.44 Inventory 0.27 0.75 1.11 1.33 1.58 1.76 1.96 2.10 2.25 2.32 Total 20.87 24.66 29.28 34.35 39.94 43.94 48.45 51.64 55.08 55.30

Operating Current Liabilities Accounts payable 2.04 3.14 4.38 5.35 6.36 7.07 7.88 8.44 9.06 9.34 Deferred revenue 1.10 1.43 1.78 2.13 2.52 2.81 3.13 3.35 3.60 3.71 Accrued expenses and other liabilities 6.14 10.18 16.96 21.90 26.00 28.92 32.22 34.54 37.05 43.89 Income Taxes Payable 0.55 0.88 0.07 0.11 0.14 0.15 0.17 0.18 0.20 0.20 Total 9.84 15.63 23.19 29.49 35.02 38.95 43.39 46.51 49.90 57.14

Net Working Capital 11.03 9.03 6.09 4.85 4.93 5.00 5.06 5.13 5.19 -1.84

Net PPE 34.23 42.38 59.72 63.47 75.36 83.82 93.38 100.10 107.38 107.60

LT Operating Assets PV of Operating Leases 6.51 7.00 7.82 8.84 10.00 11.30 12.78 14.46 16.35 18.49 Intangible assets, net 3.31 2.69 2.22 2.15 2.09 2.03 1.96 1.90 1.85 9.24 other non-current assets 0.42 2.67 2.69 3.24 3.85 4.28 4.77 5.12 5.49 5.66 Total long term assets 44.47 54.75 72.45 14.24 15.94 17.61 19.52 21.48 23.69 33.39

Long Term Operating Liabilities Deferred Revenue 0.20 0.34 0.40 0.41 0.48 0.54 0.60 0.64 0.69 0.71 Other long term liabilities 2.67 3.06 3.55 4.06 4.81 5.36 5.97 6.40 6.86 7.08 Total long-term liabilities 0.20 0.34 0.40 4.46 5.30 5.89 6.56 7.04 7.55 7.79

Invested Capital 89.53 105.82 137.86 78.10 90.92 100.54 111.40 119.67 128.71 131.36

Value Drivers NOPLAT 23.37 16.05 37.00 23.77 29.24 31.68 36.13 38.13 40.83 43.17 Invested Capital 77.90 89.53 105.82 137.86 78.10 90.92 100.54 111.40 119.67 128.71 ROIC 30.00% 17.92% 34.97% 17.25% 37.44% 34.84% 35.94% 34.23% 34.12% 33.54%

NOPLAT 23.37 16.05 37.00 23.77 29.24 31.68 36.13 38.13 40.83 43.17 Change in Invested Capital 0.00 11.64 16.29 32.03 -59.75 12.82 9.62 10.86 8.28 9.03 FCF 11.73 -0.25 4.97 83.53 16.42 22.06 25.27 29.85 31.80 40.51

Invested Capital 77.90 89.53 105.82 137.86 78.10 90.92 100.54 111.40 119.67 128.71 ROIC-WACC 23.60% 11.53% 28.57% 10.85% 31.05% 28.45% 29.55% 27.83% 27.73% 27.15% EP 18.39 10.32 30.24 14.96 24.25 25.87 29.70 31.01 33.18 34.94 Alphabet Inc. CAPM Estimation Weighted Average Cost of Capital (WACC) Estimation Risk Free Rate 1.83% Risk Premium 4.69% Beta 0.984 Re 6.44% Cost of Equity 6.44% Cost of Debt 2.54% WACC 6.39% PV of Operating Leases 7.82 Long Term Debt 4.14 Value of Debt $ 11.96 Weight of Debt 1.19% Total Shares Outstanding 0.75 Share Price $1,334.87 Value of Equity $995.28 Weight of Equity 98.81% Total Value of Alphabet $1,007.24 Alphabet Inc. Discounted Cash Flow (DCF) and Economic Profit (EP) Valuation Models

Key Inputs: CV Growth 3.18% CV ROIC 33.54% WACC 6.39% Cost of Equity 6.44%

Fiscal Years Ending Dec. 31 2019E 2020E 2021E 2022E 2023E 2024E 2025CV DCF Model NOPLAT 23.77 29.24 31.68 36.13 38.13 40.83 43.17 Growth of NOPLAT -55.65% 18.70% 7.69% 12.32% 5.23% 6.63% 5.41% Invested Capital -59.75 12.82 9.62 10.86 8.28 9.03 2.66 FCF 83.53 16.42 22.06 25.27 29.85 31.80 40.51 CV 1215.88 PV CF 78.51 14.51 18.32 19.73 21.90 21.93 838.36 Total PV 1013.25

Plus Value of Non Operating Assets Excess Cash 34.74 Marketable Securities 94.29 Non-marketable investments 12.17 Value of Non Operating Assets 141.19

Less: Value of Non Operating Liabilities PV of Operating Leases 7.82 Long Term Debt 4.14 Value of Non Operating Liabilities 11.96

Value of Equity 1142.48 Shares outstanding 0.75 Intrinsic Value 1523.31

Partial Year Adjustment 1608.77

EP Model 14.96 24.25 25.87 29.70 31.01 33.18 34.94 CV 1087.17 Beginning Invested Capital 137.86 PV CF 14.06 21.42 21.48 23.18 22.75 22.88 749.61 Total PV 1013.25

Plus Value of Non Operating Assets Excess Cash 34.74 Marketable Securities 94.29 Non-marketable investments 12.17 Value of Non Operating Assets 141.19

Less: Value of Non Operating Liabilities PV of Operating Leases 7.82 Long Term Debt 4.14 Value of Non Operating Liabilities 11.96

Value of Equity 1142.48 Shares outstanding 0.75 Intrinsic Value 1523.31

Partial Year Adjustment 1608.77 Alphabet Inc. Dividend Discount Model (DDM) or Fundamental P/E Valuation Model

Fiscal Years Ending Dec. 31 2019E 2020E 2021E 2022E 2023E 2024E 2025CV

EPS $ 34.53 $ 42.75 $ 46.74 $ 53.60 $ 57.01 $ 61.45 $ 62.65

Key Assumptions

CV growth 3.18% CV ROE 11.36% Cost of Equity 4.69%

Future Cash Flows P/E Multiple (CV Year) 24.32 EPS (CV Year) $ 62.65 Future Stock Price $ 1,523.31 Dividends Per Share ------Future Cash Flows - - - - - $ 1,157.06 -

Discounted Cash Flows $ 1,157.06

Intrinsic Value $ 1,157.06 Partial Value Adjustment $ 1,204.35 Alphabet Inc. Relative Valuation Models

EPS EPS Est. 5yr Ticker Company Price 2019E 2020E P/E 19 P/E 20 EPS gr. PEG 19 PEG 20 FB Facebook $187.22 $9.28 $9.53 20.17 19.65 21.2 0.95 0.93 AMZN Amazon $1,795.77 $20.64 $27.20 87.00 66.02 50.3 1.73 1.31 MSFT Microsoft Corp $143.72 $5.40 $6.60 26.61 21.78 14.5 1.84 1.50 AAPL Apple Inc $242.38 $11.68 $12.79 20.75 18.95 9.7 2.14 1.96 BABA Alibaba Group Holding Limited $179.08 $6.89 $8.68 25.99 20.63 3.7 7.10 5.64

Average 36.11 29.40 2.75 2.27

GOOGL Alphabet Inc. $1,334.87 $ 34.53 $ 42.75 38.7 31.2 10.1 3.8 3.1

Implied Relative Value: P/E (EPS19) $ 1,246.77 P/E (EPS20) $ 1,257.20 PEG (EPS19) $ 960.85 PEG (EPS20) $ 979.97 Alphabet Inc. Key Management Ratios

Fiscal Years Ending Dec. 31 2016 2017 2018 2019E 2020E 2021E 2022E 2023E 2024E 2025CV

Liquidity Ratios Current Ratio Current Assets / Current Liabilities 6.29 5.14 3.92 3.74 3.52 3.53 3.66 3.88 4.05 4.16 Quick Ratio (Current Assets - Inventory) / Current Liabilities 6.27 5.11 3.89 3.71 3.49 3.50 3.62 3.85 4.02 4.13 Cash Ratio Cash / Liabilities 5.15 4.21 3.15 3.01 2.81 2.85 2.97 3.19 3.38 3.55

Activity or Asset-Management Ratios Receivables Turnover Total Revenues / Average Receivables 6.42 6.73 6.86 6.95 6.91 6.72 6.73 6.61 6.61 6.60 Inventory Turnover Sales / Average Inventory 6.38 6.74 6.87 6.95 6.91 6.72 6.73 6.61 6.61 6.60 Payables Turnover ((COGS + Dep. + Amort.) - (Change in inventories))/ Average Payables 17.56 17.42 15.75 15.24 14.77 14.49 14.50 14.34 14.34 14.48

Financial Leverage Ratios LT Debt / Total Equity (%) Total long-term Debt / Total Shareholders' Equity 2.83% 2.60% 2.26% 2.10% 1.91% 1.75% 1.60% 1.47% 1.35% 1.26% LT Debt / Total Capital (%) Long-term Debt / (LT Debt + Total Equity) 2.75% 2.54% 2.21% 2.05% 1.88% 1.72% 1.57% 1.44% 1.33% 1.24% Total Debt / Equity (%) (Long-term Debt + Short-term Debt) / Total Equity 2.83% 2.60% 2.26% 2.10% 1.92% 2.15% 1.60% 1.47% 1.63% 1.26%

Profitability Ratios Gross Margin [Revenue - Cost of Rev. - Depreciation - Amortization] / Revenue 61.07% 58.89% 56.48% 54.15% 54.97% 54.50% 54.51% 54.22% 54.22% 52.92% SGA to Sales SG&A / Revenue 34.81% 32.83% 33.53% 35.50% 35.50% 35.50% 35.00% 35.00% 35.00% 33.50% Return on Assets (%) Net Income / Total Assets 11.63% 6.42% 13.20% 9.88% 10.77% 10.46% 10.67% 10.19% 9.85% 9.06% Return on Equity Net Income / Shareholders' Equity 14.01% 8.30% 17.31% 13.04% 14.19% 13.68% 13.78% 12.97% 12.41% 11.36%

Payout Policy Ratios Total Payout Ratio Dividend Payments/ Net Income+Share Rechpurchases 0% 0% 0% 0% 0% 0% 0% 0% 0% 0% Present Value of Operating Lease Obligations (2019) Present Value of Operating Lease Obligations (2018) Present Value of Operating Lease Obligations (2017) Present Value of Operating Lease Obligations (2016) Present Value of Operating Lease Obligations (2015)

Operating Operating Operating Operating Operating Fiscal Years Ending Dec. 31 Leases Fiscal Years Ending Dec. 31 Leases Fiscal Years Ending Dec. 31 Leases Fiscal Years Ending Dec. 31 Leases Fiscal Years Ending Leases 2019 1.319 2018 1.175 2017 0.843 2016 0.672 2015 0.628 2020 1.397 2019 1.133 2018 0.902 2017 0.794 2016 0.643 2021 1.337 2020 1.073 2019 0.91 2018 0.796 2017 0.644 2022 1.153 2021 0.975 2020 0.854 2019 0.769 2018 0.597 2023 9.8 2022 0.831 2021 0.767 2020 0.719 2019 0.576 Thereafter 3.916 Thereafter 3.616 Thereafter 3.694 Thereafter 3.706 Thereafter 3.157 Total Minimum Payments 18.922 Total Minimum Payments 8.803 Total Minimum Payments 7.97 Total Minimum Payments 7.456 Total Minimum Payments 6.245 Less: Interest 2.01 Less: Interest 0.99 Less: Interest 0.97 Less: Interest 0.95 Less: Interest 0.81 PV of Minimum Payments 16.91 PV of Minimum Payments 7.82 PV of Minimum Payments 7.00 PV of Minimum Payments 6.51 PV of Minimum Payments 5.44

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 2.54% Pre-Tax Cost of Debt 2.54% Pre-Tax Cost of Debt 2.54% Pre-Tax Cost of Debt 2.54% Pre-Tax Cost of Debt 2.54% Number Years Implied by Year 6 Payment 1.0 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

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 1.319 1.3 1 1.175 1.1 1 0.843 0.8 1 0.672 0.7 1 0.628 0.6 2 1.397 1.3 2 1.133 1.1 2 0.902 0.9 2 0.794 0.8 2 0.643 0.6 3 1.337 1.2 3 1.073 1.0 3 0.91 0.8 3 0.796 0.7 3 0.644 0.6 4 1.153 1.0 4 0.975 0.9 4 0.854 0.8 4 0.769 0.7 4 0.597 0.5 5 9.8 8.6 5 0.831 0.7 5 0.767 0.7 5 0.719 0.6 5 0.576 0.5 6 & beyond 3.916 3.4 6 & beyond 0.831 3.0 6 & beyond 0.767 3.0 6 & beyond 0.719 3.0 6 & beyond 0.576 2.6 PV of Minimum Payments 16.9 PV of Minimum Payments 7.8 PV of Minimum Payments 7.0 PV of Minimum Payments 6.5 PV of Minimum Payments 5.4 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): Expected Annual Number of Options Exercised:

Current Average Strike Price: Cost of Equity: 6.44% Current Stock Price: $1,334.87

2019E 2020E 2021E 2022E 2023E 2024E 2025CV Increase in Shares Outstanding: Average Strike Price: Increase in Common Stock Account: ------

Change in Treasury Stock 5.8713 5.8713 5.8713 5.8713 5.8713 5.8713 5.8713 Expected Price of Repurchased Shares: 1,334.87 1,420.90 1,512.48 1,609.96 1,713.72 1,824.17 1,941.73 Number of Shares Repurchased: 0.0044 0.0041 0.0039 0.0036 0.0034 0.0032 0.0030

Shares Outstanding (beginning of the year) 0.7500 0.7456 0.7415 0.7376 0.7339 0.7305 0.7273 Plus: Shares Issued Through ESOP 0.0000 0.0000 0.0000 0.0000 0.0000 0.0000 0.0000 Less: Shares Repurchased in Treasury 0.0044 0.0041 0.0039 0.0036 0.0034 0.0032 0.0030 Shares Outstanding (end of the year) 0.7456 0.7415 0.7376 0.7339 0.7305 0.7273 0.7243