Google is the leading search engine in the world, and has used the revenues from this position to both expand on its search capabilities and to enter new businesses as well. Google's main search engine is the world's most-visited website (Alexa.com, 2012). This brand has been expanded both geographically and across multiple product line extensions. The brand is the number one search engine in most major markets, the exception being China where cultural differences and legal troubles have allowed competitor Baidu to become market leader and the world's #5 website. (Li & Womack, 2012). Product extensions include Maps, Translate, Scholar, Books, Images, Video and other similar search-related websites. Google also owns Blogger, one of the world's leading blog sites. Additionally, Google has enjoyed strong growth in recent years as the result of its Android mobile operating system. Android has become the world's largest mobile operating system, with 38.9% market share (Choney, 2011).
Google earns most of its money from advertisements that it generates from its search queries. Sixty-six percent of this revenue comes from the Google family of sites itself, with a further 30% of the revenue coming from Google Network websites. Other revenues are just 4% of the company's total revenue (Google 2010 Annual Report). A total of 48% of the company's revenue comes from the United States. The United Kingdom is the second-largest market for Google, worth 11% of the company's revenues. The company has not monetized to any significant degree either the Android operating system or the Chrome browser, despite the popularity of those products in recent years.
By contrast, Microsoft has a relatively low market share in both search and mobile operating systems. Bing, the company's search engine, is ranked #26 on Alexa, below several of Google's national sites and below Yahoo as well. Most of Microsoft's revenue is earned from Windows, which accounts for 27.2% of the company's revenues and 45.2% of its operating profits. Server and Tools accounts for 24.4% of Microsoft's revenue and 24.3% of its operating profits. Online Services, the division that encompasses Bing, only earned 3.8% of the company's revenue and the division turned an operating loss. Bing market share did grow 31% in the latest fiscal year, however.
All told, Google's revenues in the 2011 fiscal year were $37.9 billion, and its net income was $9.7 billion. By contrast, Microsoft earned $69.9 billion in revenues and $23.1 billion in net income. Extrapolating search revenue from this data, Google earned $36.4 billion in revenue from its search properties, while Microsoft earned $2.65 billion. Google's domination of mobile operating systems is similar. While some observers feel that Microsoft will eventually rise to prominence in this field, at present the companies trailing Google are Symbian, Apple and Research in Motion.
This section will focus on a comprehensive financial analysis of these two companies using a selected number of financial ratios. These include the current ratio, ROA, ROE, debt ratio, the fixed asset turnover, dividend payout ratio and the price/earnings ratio. Financial ratios are often used to compare different companies, because they are based on financial statements that are produced according to the same set of rules, the generally accepted accounting principles (GAAP). As such, there is a high degree of comparability between figures, especially when comparing companies in the same industry. There are many similarities between Microsoft and Google, but there are also a number of differences that will also need to be taken into consideration when making the final investment decision.
The first ratio to be discussed is the current ratio, which is a measure of the company's liquidity. The formula for the current ratio is current assets / current liabilities. The current assets are those that are easy to liquidate, and can therefore be used to pay down the firm's obligations for the coming year. In general, a current ratio above 1.0 is considered healthy. The higher the number the healthier the firm's liquidity is. Google's current ratio is 5.9, compared with 10.6 two years ago. Both of these numbers are outstanding. As of the end of fiscal 2011, Microsoft's current ratio was 2.6, compared with 1.8 two years ago. The trend for Microsoft is important, because it indicates that the company is experiencing improved liquidity over the past couple of years. Google's trend is less important -- 5.9 is an exception current ratio so the fact that it was nearly double that two years ago is not particularly important. Google is still one of the most liquid companies on the market. Microsoft, for its part, has a high level of liquidity as well. The company's cash ratio is 1.8, meaning that most of the current assets are in cash. Because of that, Microsoft is very well positioning to cover its obligations for the coming year, most of which are in the "other" category.
The second ratio that will be analyzed is the return on assets, and this will be analyzed alongside the return on equity as two of the profitability indicators. The return on assets measures the company's ability to convert its assets to profit, while the return on equity measures the company's ability to convert its equity to profit. The ROA is the more comparable number between the two companies, since both firms have a similar asset structure to support their revenue-generating activities. The ROE is less comparable, because this figure is affected by the company's capital structure decisions. Firms often take on debt as a means of lowering their cost of capital, and the result of this leverage is that the company's shareholders will earn better returns on their investment, because more of the company's profits will go to fewer shareholders.
According to MSN Moneycentral, Google's return on assets is 14.9% and the return on equity is 18.66%. The five-year ROA is 16.5% and the five-year ROE is 19.4%. All of these figures are slightly above the industry averages. That Google has seen its investment returns dip slightly over the past five years is slightly discouraging, since the company did not experience a slump in business during the recession. That Google remains ahead of the industry on its returns is a positive sign, however. Microsoft's ROA is 22.9% and its ROE is 41.68%. The five-year average ROA is 22.7% and the five-year average ROE is 43.7% (MSN Moneycentral, 2012). These figures are all well above the industry averages (and this is a different industry than the one in which Google operates). What this says about Microsoft is that the company consistently excels, and that its current ROA is around the same as what it normally earns. There has been a slight dip in the ROE, however. Comparing the two companies, they both perform well with respect to their returns. Microsoft's are superior, but its industry generally has superior returns. In addition, the return on equity figure of 41.68% is substantially higher than Google's 18.66% figure. This reflects the higher degree of leverage that Microsoft has. With more debt in its capital structure, Microsoft can return higher returns to its shareholders than can Google, which has very little long-term debt.
The third ratio to be examined is the debt ratio. The formula for the debt ratio is total debt / total assets. This measures the degree of leverage that the company has. In general, firms try to strike a balance between the level of debt and equity. There is a desire to lower the company's cost of capital, which implies the use of debt financing, but there is also a desire to avoid the risk that comes with debt. For each of these companies, there should be a high level of control over the debt ratio, because these firms can easily finance their activities from their massive cash positions.
Google's debt ratio is 19.9%, and this figure is up from 11% two years ago. In that time, Google has gone from zero long-term debt to almost $3 billion, the first long-term debt that Google has added. This is perhaps an indication that the company wants to make a shift in its capital structure towards a higher debt ratio. At this point, certainly, there can be no argument made that Google has too much debt. Microsoft, as a counterpoint, has a higher debt ratio. At the end of the last fiscal year, Microsoft's debt ratio was 47.4%, compared with 49.2% two years previous. In that year (FY2009), Microsoft added its first long-term debt and has added more in the interim so that it now holds $11.9 billion of long-term debt on its books. This represents a concerted effort on the part of Microsoft to maintain a consistent capital structure over time, to keep its cost of capital lower, and offer its shareholders a higher return on equity.
The next metric to consider is the fixed asset turnover. The formula for the fixed asset turnover ratio is net sales / net property, plant and equipment. Neither of these companies has a particularly high level of fixed…