Google vs Microsoft Financial Ratio Analysis Compared

Financial Ratio Analysis: Liquidity, Profitability, and Debt

Liquidity ratios measure a firm's ability to meet its debt obligations using available cash (Rashid & Abbas, 2011, p. 9). A common type is the current ratio, which compares current assets to current liabilities. This information helps executives determine whether the firm will be able to pay its current debts as they mature (Kurtz, 2011, p. 540). The current ratio is calculated by dividing current assets by current liabilities. Google's current ratio is calculated by dividing 41,562 by 9,996, yielding a ratio of 4.15. Microsoft's current ratio is calculated by dividing 49,280 by 27,034, yielding a ratio of 1.82.

Profitability ratios measure an organization's overall financial performance by evaluating its ability to generate revenues in excess of operating costs and other expenses (Kurtz, 2011, p. 542). The return on assets (ROA) ratio reveals how well management is employing total assets to generate profit. ROA is calculated by comparing net income to average total assets (Investopedia Ulc., 2011). Google's ROA can be expressed as 8,505 / ((57,851 + 40,497) / 2), which equals 17.2%. Microsoft's ROA can be expressed as 18,760 / ((86,113 + 77,888) / 2), which equals 21.8%.

The return on equity (ROE) ratio measures how much shareholders earned for their investment in the company (Investopedia Ulc., 2011). ROE is calculated by comparing net income to average equity. Google's ROE can be expressed as 8,505 / ((36,004 + 46,241) / 2), which equals 20.6%. Microsoft's ROE can be expressed as 18,760 / ((46,175 + 39,558) / 2), which equals 43.7%.

The debt ratio compares a company's total liabilities to its total assets and indicates the degree of leverage being used (Loth, 2011). Google's debt ratio is expressed as 11,610 / 57,851, which equals 20%. Microsoft's debt ratio is expressed as 39,938 / 86,113, which equals 46.37%.

The fixed assets turnover ratio is a rough measure of how productively a company uses its fixed assets — property, plant, and equipment — to generate sales (Investopedia Ulc., 2011). It is calculated by dividing revenue by fixed assets. Google's fixed assets turnover ratio is expressed as 29,321 / 7,759, which equals 3.77. Microsoft's fixed assets turnover ratio is expressed as 62,484 / 7,630, which equals 8.18.

Cash flow indicators focus on how much cash is being generated and the financial safety net it provides. The dividend payout ratio identifies the percentage of earnings per common share allocated to paying cash dividends to shareholders (Loth, 2011). It is calculated by comparing dividends per common share to earnings per share. Neither Google Inc. nor Microsoft Corp. pays dividends to shareholders, so no dividend per common share figure appears in their financial documents.

Investment valuation ratios estimate the attractiveness of a potential or existing investment. The price-to-earnings (P/E) ratio is the best known of these indicators (Loth, 2011). It is calculated by comparing stock price per share to earnings per share. Google's P/E ratio is expressed as 625.8 / 29.34, which equals 21.33. Microsoft's P/E ratio is expressed as 25.6 / 2.75, which equals 9.34.

Comparing Business Models: Core Business, Products, and Leadership

Google is one of the world's major internet technology and advertising companies, headquartered in Mountain View, California, with approximately 24,400 employees. The company specializes in internet search engines and related advertising services. Microsoft develops, manufactures, licenses, and supports software products for a wide range of computing devices. It operates primarily in the United States, is headquartered in Redmond, Washington, and employs approximately 89,000 people (The Datamonitor Group, 2011).

Google maintains a large index of websites and other online content freely available through its search engine, generating revenue primarily through online advertising. Its strong brand image and market position provide a competitive advantage. Microsoft's software portfolio includes operating systems, server applications, information worker productivity tools, business solution applications, high-performance computing applications, and software development tools. Microsoft also develops the MSN network of internet products and services. Its strong brand image promotes consumer trust and drives demand (The Datamonitor Group, 2011). Google's leading products include Google Search, YouTube, and Google Maps, while Microsoft's leading products include Microsoft Office, Windows Server, and Windows Client.

Google's management team consists of nine board members and six executive officers. According to Eric Schmidt, then executive chairman, "The company is organized 'bottoms up' in product creativity and 'tops down' from running the quarter and the financials and so forth" (Ahmed, 2011, para. 6). Google encourages employees to spend 20% of their time on self-directed projects, supports large-group conversation, and values diversity of ideas. Decision-making is open and collaborative, with all interested parties invited to share their perspectives — a model that deliberately avoids hierarchical decision-making (Ahmed, 2011). Microsoft, by contrast, is organized into eight customer-oriented divisions, each led by a top manager expected to exercise delegated, autonomous authority over their respective area.

Regarding innovation track records, both companies have produced dozens of successful products alongside a number of failures. Google's failed innovations include Google Lively, Orkut, and Google Web Page Creator. Notable failed Microsoft products include Tablet PCs and Microsoft Bob.

A recession can be defined as an extended period of significant decline in economic activity, characterized by negative GDP growth, faltering consumer and business confidence, weakening employment, falling real incomes, and declining sales and production (Investopedia Ulc., 2011). Comparing the current ratio, debt ratio, and fixed asset turnover ratio of both companies helps determine which is better positioned to handle a recession.

Recession Resilience: Which Company Holds Up Better?

Regarding the current ratio: increasing liquidity reduces the likelihood that a firm will face emergencies caused by the need to raise funds to repay loans (Kurtz, 2011, p. 539). A current ratio of 2:1 indicates satisfactory liquidity, while a ratio below 1 may signal difficulty paying bills on time. The figures show that both companies' current ratios exceed 1; however, the higher the current ratio, the more capable the company is of meeting its obligations. Google's higher current ratio would give it a greater chance of surviving a major recession.

Regarding the debt ratio: when a debt ratio exceeds 50%, a firm is relying more on borrowed money than on owner's equity (Kurtz, 2011). Both companies rely more on owner's equity than on debt. However, Google's debt ratio is considerably lower than Microsoft's, which gives Google an advantage during a potential recession. Regarding the fixed assets turnover ratio: a higher ratio indicates more effective use of fixed asset investment to generate revenue. By this measure, Microsoft uses its fixed assets more efficiently than Google.

Taken together, these ratios suggest that Google would handle a recession better. Although Microsoft's fixed assets turnover ratio is higher, Google's current ratio is higher and its debt ratio is lower — factors that carry greater weight in a recessionary environment.