Will Sorrell’s Prediction about Amazon-Google Face-Off Come True?

Amazon vs GoogleMartin Sorrell Predicts Amazon vs. Google Face-Off

According to a major advertising CEO, we are nearing an epic showdown between Amazon vs. Google. The CEO’s name is Martin Sorrell (or rather Sir Martin Sorrell), and he runs the biggest advertising agency in the world. He thinks the two tech giants are on a collision course.

This isn’t something you hear every day. Advertising dollars are the main source of revenue for Facebook Inc (NASDAQ:FB) and Alphabet Inc (NASDAQ:GOOG), so it’s commonplace to hear them mentioned by advertising CEOs. But not Amazon.com, Inc. (NASDAQ:AMZN).

Amazon is an e-commerce company. It dabbles in other businesses, like cloud computing and video streaming, but few people consider it a threat to the Google stock price. Investors don’t link it to the Amazon stock price in that way.

Sorrell thinks this is a mistake. He is sounding the alarm for a tectonic shift in the landscape of online advertising. Considering that he’s one of the foremost authorities on advertising, I decided to take him seriously. I also dug a little deeper on his claims. Here’s what I found.

  1. Ad agencies are losing business to consulting firms.
  2. This trend is good for AMZN stock in 2017.
  3. That’s why its advertising revenue grew 60% last year.
  4. Google should be nervous.
  5. Sir Martin Sorrell is a pretty smart guy.

These points are a broad overview. I’ll get more into detail later, but for now let’s think about what this means. Does it mean that you should dump Google stock? Not necessarily.

Google stock is a complex bet. Ten years ago the outlook for online advertising spend was all that mattered. Today, that analysis is over-simplified. Google is just so big. It has an entire subsidiary working on self-driving cars!

And don’t forget about the company’s venture capital arm. “Google Ventures” is one of the hottest investors in Silicon Valley. It has investments in dozens of tech startups, including Uber Technologies Inc., Slack, DocuSign Inc., and Stripe. These bets could pay off big-time for GOOG stock investors.

So it’s not clear that Amazon’s gain will be Google’s loss.

But one thing is clear: Amazon stock is poised for massive growth. The share price is likely to continue the glorious run it’s been on for the last decade.

AMZN_10years

Chart courtesy of StockCharts.com

Sir Martin Sorrell Is Losing Business

Sorrell’s advertising group, WPP, is the biggest in the world. But it is also in the middle of an existential crisis. With so many ways to reach consumers (social media, online streaming etc.), WPP’s corporate clients are feeling a little lost.

Some are hiring consulting firms to manage their public relations (PR).

For instance, WPP lost major bookings with Volkswagen and AT&T. Those contracts were worth $2.8 billion and $1.8 billion, respectively, meaning that WPP’s expected revenue growth for 2017 slipped from three percent to two percent.

This shift presents an opportunity for both the Amazon stock price and the Google stock price.

Firms like WPP used to “hold all the cards.” They could suppress auction pricing on Google and Amazon’s advertising platforms but, with clients ditching them for Accenture Plc (NYSE:ACN) and Deloitte, the balance of power is looking quite different. Advertising prices could start to rise.

Sorrell basically admitted as much when he said, “We put together an agency in Seattle,” the location of Amazon’s headquarters, “specifically to deal with Amazon and cater to Amazon.”

Amazon Ad Revenue 2017

No one is 100% sure how much money Amazon makes from advertising. The company buries that number in a category called “Other” revenues. That alone should raise your suspicions. Why is Amazon taking the trouble to hide its advertising revenue?

Perhaps it’s because they are hiding grander ambitions.

Google currently takes in $34.0 billion in revenue. Facebook has another $15.0 billion worth of ad sales. Based on the industry’s best estimates, Amazon is hovering around $1.0 billion.

Although this represents a 60% increase from a year before, poaching some of Google and Facebook’s market share could go a long way in boosting Amazon’s bottom line, particularly since advertising is a high margin business.

But taking on Google and Facebook won’t be easy. Right now they have all the market power in the world. However, Amazon stock has one thing they do not: e-commerce.

Here’s an example that will help explain what I mean. A few months ago, I wanted to buy a watch. After doing some research on Google, I began to see ads for watches everywhere.

No surprise there. Google keeps track of past searches so they can grab my attention with banner ads. But did I click on them? No! I had moved on from researching watches to other things, like office work and reading. My mindset had completely shifted focus, so the ads felt intrusive.

The same goes for Facebook. It is supposed to be a place where I can chat with friends, read some news, or plan an event. I am not on Facebook to purchase anything. The advertisements there feel out of place, like a door-to-door salesman who interrupts a dinner party.

That is what makes Amazon.com unique; people are going there to buy things! It is certainly where I went to look at watches. Showing me ads at that point makes sense as I’m very close to buying one.

From the point of view of advertisers, this difference is everything.

Amazon ads should be worth a lot more than those on Google or Facebook. Why? Because customers are closer to the point-of-sale, meaning they have an “intention to buy.”

Martin Sorrell knows this.

Amazon vs. Google: What Is a Better Investment?

Let’s get down to brass tacks. Which stock has a better outlook for 2017?

Amazon Stock vs. Google Stock

Statistic

AMZN Stock

GOOG Stock

Beta

1.4

0.94

52-Week Change

51.00%

19.88%

Price/Sales

2.99

6.47

Price-to-Earnings/Growth

3.06

1.29

Market Capitalization

$406.36B

$584.38B

Based on growth, and growth alone, I would say Amazon stock. It has a comparatively lower price-to-sales ratio, which reveals that the market is unaware of its advertising potential.

The company’s revenue could skyrocket with new advertising spend, helping it beat investor expectations in the coming quarters. Not only would that cause a surge in Amazon stock price, but it would prove Sir Martin Sorrell right. On the flipside, it could hamper Google stock price.

That said, there are things that Amazon can learn from Google. Just look at the price-to-earnings/growth (PEG) ratio. The fact that Google stock is trading low compared to its forecasted growth suggests positive price action.

By contrast, Amazon’s PEG ratio looks comically high. Part of this is related to the company’s e-commerce arm, which is notorious for razor-thin margins that often result in a net loss. What Amazon needs is a few more profit centers.

Its cloud computing business, “Amazon Web Services,” is definitely one of them. It single-handedly dragged Amazon’s bottom line into the black last year. Having another cash cow would help ensure that Amazon stock price continues moving “up and to the right.”

Advertising revenues fits the bill.

Think about it: both Google and Facebook are cash machines. They churn out earnings like it’s the easiest thing in the world. Except that both of them rely exclusively on advertising sales.

The numbers are shocking.

Facebook made $8.63 billion from ad sales last quarter, or 98% of its total revenue. (Source: “Facebook Reports Fourth Quarter and Full Year 2016 Results,” Facebook Inc Investor Relations, February 1, 2017.)

Google segment revenues (everything minus “Other Bets”) was $25.8 billion in the most recent quarter. That is 99% of its total revenue. (Source: “Alphabet Announces Fourth Quarter and Fiscal Year 2016 Results,” Alphabet Inc, January 26, 2017.)

Considering that both of these companies are making billions of dollars in profit for the shareholders, it’s clear that advertising is a high-margin business. By carving out a piece of this pie, Amazon is effectively financing its other, low-cost businesses.

Conclusion

As always, stock-picking is a decision that comes down to the individual investor. Only you know your tolerance for risk, your appetite for capital gains, and the time horizon of your investment portfolio. I don’t know any of those things.

This decision is yours. There could be enormous returns waiting on either side of this trade, but it’s up to you which side you choose. Sir Martin Sorrell has given you his opinion. Heck, he’s even voting with his pocketbook by opening an office near Amazon. He clearly thinks AMZN stock has an upper hand in this fight.

But, to be quite honest, the “Amazon vs Google Showdown” shouldn’t be viewed as a zero-sum game. It really just depends on what you are looking for. Since both stocks are showing upward traction (see chart below), the risk of capital losses is relatively small.

AMZN_GOOG

Chart courtesy of StockCharts.com

The differences are clear. For raw, explosive growth, Amazon stock is the favorite. But GOOG stock is still a powerhouse with tons of innovative talent, so it’s not a bad bet for investors that are slightly more risk-averse.

I’ve also shared my opinion in the digital column inches above. Now it rests with you, the individual investor, to make a decision. Are you willing to bet on an earnings beast like Google stock? Or are you swayed by Amazon’s secret assault on the advertising world?