Jensen Quality Growth Fund – Why We Really Like (The Other) Alphabet by Jensen Investment Management

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The Jensen investment team added Alphabet (NASDAQ: GOOGL) to the Jensen Quality Growth Fund in early September.  Alphabet is a global technology company that delivers internet services such as Google and YouTube, operating systems such as Android and Chrome, hardware such as Nexus smart phones and tablets, and enterprise cloud infrastructure.

Fundamentally, we believe the company’s competitive advantages – such as its iconic brands, innovation, and economies of scale – are sound.  Additionally, we believe Alphabet enjoys a network effect from its core Google search engine that enables it to almost perpetually invest in ancillary services, such as YouTube, Waze, and others, all of which further enhance its network effect.

Google Alphabet

Alphabet

We believe the company’s growth drivers are compelling.  For example, its core search and advertising model has continued to dominate its markets and evolve as the advertising market shifts from online to mobile. Its YouTube video service is at the crux of the transition of video content from traditional media to online. Lastly, the company is making key investments and hires to enable it to be a competitive enterprise cloud provider.

Financially, Alphabet is robust in our opinion. The company has over $73 billion in cash and equivalents on its balance sheet. Alphabet has demonstrated that it can comfortably generate more cash than it needs and is now maturing to the point that it has begun to return cash to shareholders via share buybacks. While the company has historically generated high double-digit top-line and bottom line results, we expect such results will likely slow but stabilize into what we believe is an attractive quality growth profile. As a result, we believe Alphabet can continue to deliver consistently high returns on capital.

One of the key reasons we believe now is a good time to invest in Alphabet, is because the company’s senior leadership has matured into what we consider to be a quality growth management team that is becoming more shareholder focused. Alphabet hired Ruth Porat as CFO in the spring of 2015, and we view her hire as a big step towards “grown up” management.  She was instrumental in the restructuring of Google into the Alphabet holding company last fall which broke out the “Other Bets” segment.  “Other Bets” are considered long term, exploratory investments that have very little immediate payoff, such as self-driving cars and Google Fiber.  By breaking out this segment, investors now have better visibility into how much these projects cost and what impact they have on the overall business. Long term insider, Sundar Pichai, was named CEO of Google during the restructuring, which we view positively as well. He has been with Google since 2004 and has overseen the development and operations of many core Google applications and services. We feel the current team is well positioned to successfully guide Alphabet as it navigates its future.

We are pleased to add Alphabet to the Jensen Quality Growth Fund.  We believe its balance of fundamentals and compelling valuation makes it a worthy addition.