Microsoft Vs. Google: Who Is Going To Win

Summary:

• With ChatGPT Microsoft challenged Google’s core business.
• At the same time, Google has silently become the market leader in the office productivity software segment.
• In this article, I share what I think of this big-tech battle.

Introduction

All right, we have a new buzz word: AI. Much has been said since Microsoft (NASDAQ:MSFT) released Chat GPT, clearly aiming at challenging Google’s (NASDAQ:GOOG, NASDAQ:GOOGL) monopoly in search. “We made them dance,” said Satya Nadella, claiming Microsoft’s positive role in stirring “the 800-pound gorilla” (i.e. Google) to come out and react to Microsoft’s innovation.

We didn’t have to wait much and Bard was released. Comparisons about the two are flocking all over the internet to understand which one is better. But, while this technological clash is taking place, as investors, what can we look at to make our choices? Should we focus only on one of the two, based on our expectations of which one will come out as a winner?

In this article, I will share how I view Google and Microsoft’s competition from the point of view of one who is invested in both of them. We will compare three aspects: search, productivity software and cloud.

Search

According to Google’s Form 10-k, the Search business has grown quite fast at the following pace:

• 2020 $104 billion
• 2021 $149 billion
• 2022 $162 billion

Google Search is the largest part of Google advertising, where YouTube ads and Google network also contribute to generate a total revenue of $224 billion in 2022.

On the other hand, we find in Microsoft’s 2022 Annual Report that its search and news advertising revenue increased $2.3 billion or 25%. This means that the business as a whole generated $9.2 billion in revenue.

Clearly, Google is far larger than Microsoft, when speaking of search. In fact, according to statcounter, as of March 2023 Google still controls 93% of the search market worldwide, with Bing coming in second place with just 2.9%. Statista.com, on the other hand, gives us some different data, with Google at 84.7% and Bing at 8.9% of market share. Still, the gap between the two is huge and it is not questionable that Google has a very wide moat in search.

Let’s take the median value and assume that Google has an 88.9% market share and Bing has 5.9%. This gives a current market value of around $180 billion.

What happens now that Microsoft Bing, integrated now with ChatGPT, seems to be able to beat Google’s Bard? I think the answer is quite simple: Microsoft may take some market share in search. However, just a little increase in market share can be very impactful for Microsoft, since its search business is very small. On the other hand, even if Google loses some market share, it may still see its revenue growing due to the fact that the size of the global market is expanding.

Let’s make the hypothesis that Microsoft will capture another 3 percentage points in one year. In the meantime, the market could grow around 8%, as it has done in recent years.

This means that we will be before a market whose value could be around $194 billion by the end of the year. If Bing is able to grab 3 extra percentage points, it could have a revenue of $15.5 billion. This would be a 69% increase YoY. At the same time, Google would see its revenue increase by at least $10 billion to $172 billion.

In the end, both companies win. This is why I am not really concerned about Bing stealing a bit of market share from Google.

Office Productivity Software (and Cloud)

Let’s change battlefield and let’s take a look at one of Microsoft’s most successful products: Office.

Here we may find a surprise. We may still think Microsoft is the market leader, but in recent years, Google has caught up with Workspace and it is actually the market leader in the market. According to Statista.com, Google holds 50% of the office productivity software market, while Microsoft has about 47.9%.

However, when we compare the revenues we are once again taken aback. We would think the two companies to have similar numbers. But it is not so.

Microsoft reports its Office Commercial and Office Consumer revenue under the productivity and business processes segment. Together with Office, this segment consists of LinkedIn and Dynamics 365. It is fair to assume the majority of the reported revenue under this segment comes from Office.

In 2022, this segment’s revenue reached $63.4 billion, up 17% YoY and 36% compared to 2020.

On the other hand, Google includes Workspace in the Google Cloud segment. Overall, Google Cloud reached a revenue of $26.3 billion in 2022, though it is still running at a loss of almost $3 billion.

As much as Workspace may weight on the overall balance of Google Cloud, it is hard for me to think it has the lion’s share in the segment. I’d rather think more than half of it comes from Google Cloud Platform. In fact, just to get an idea, in 2022 Microsoft reported for its Intelligent Cloud segment a revenue of $75 billion, with an operating income of $32.7 billion.

This makes us understand what the size of cloud should be and thus assume that Google Workspace generates a revenue of less than $13.15 billion.

Clearly, it is a bit hard to compare the two companies on this aspect, as they have two different strategies regarding office productivity software. Google is using Workspace to draw customers into its cloud. Microsoft, on the other hand, uses Office as a true cash cow and bundles it together with Windows in order to retain its customers and introduce them to Azure.

How is this second battle going to end? Both Google and Microsoft will win because the more they build their ecosystems the more they create a duopoly harder and harder to compete with.

Looking forward

As we have said, un until now Google has managed to have a much better reach on search than Microsoft. In addition, Google has been able use this advantage to make Chrome the most popular browser, that, as of March 2023, had a market share of 64.8%, compared to 19.5% of Safari and 4.6% of Edge.

This already shows how Edge has a bit of a larger market share compared to Bing. This implies that Microsoft could already gain some market share by simply incentivizing Edge users to become Bing users too. Another way to increase Bing traffic is through its Microsoft Rewards program. However, I am willing to bet that if this incentivizes many users to switch from Google search to Bing, Google will not stay idle and will find a way to develop its own program.

On the other hand, as we have seen, Microsoft is currently more profitable than Google. Part of this is because Microsoft is a more mature company than Google. But part of it is linked to Google’s operating costs that did seem to go a bit out of control. In addition, in the article “The Issue that Google Has and Apple Doesn’t” I outlined how Google was also burning a lot of its free cash flow due to high stock-based compensation expense.

Back in January, Christopher Hohn sent a letter to Sundar Pichai to address the issue of the exploding headcount within Alphabet, asking for a 20% reduction and limit to stock-based compensation. Before that letter, Google had already announced 12,000 layoffs. Since then, Google has taken further cost-cutting action. Another round of layoffs is rumored to be coming.

What does this have to do with our main topic? If Google increases its profitability, it will have more money to spend on truly central projects, such as the improvement of Bard or the development of a rewards program. Furthermore, in is a bit of an anomaly that Google, compared to AWS and Azure, still runs its cloud business at a loss. Part of this is because Google started a bit later, especially compared to AWS, and thus needs to catch up. In particular, Google needed to spend a lot to create an ecosystem that locks its customers in its cloud. This is where Workspace plays a big role. But as we see Google pivot to a better management of its cost structure, it is reasonable to believe that we will see Google Cloud become a very profitable business, as the more mature AWS is.

Conclusion

No matter how we look at it, the competition between Google and Microsoft simply separates them from any other company. I own both Microsoft and Google, though I have a larger stake in the former. As many, I have been intrigued by how this move from Microsoft challenged Google. As many, I first thought Google was in trouble. Then I thought I should not worry. But it took me a few months to understand what is really happening. Google and Microsoft may battle, but as they do, they will just draw an ever more unsurpassable barrier between them and any other competitor. The more they build this moat, the more they will benefit from their technological innovations, leveraging them into cash cows. As a shareholder, I am fine with this and I actually say: let both of them dance.

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Analyst’s Disclosure: I/we have a beneficial long position in the shares of MSFT, GOOG either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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