Google: Brussels Goes All In (Rating Downgrade)
Contributor since 2015 / 5992 Followers
Summary:
- The European Commission has once again accused Google of breaching the European Union antitrust laws.
- At the same time, the European Commission also believes that only the mandatory divestment by Google of part of its services would address the competition concerns.
- On top of that, the company faces billions of additional dollars in fines and the potential disruption of its business operations.
- As Google faces additional regulatory pressure, this article outlines the potential outcomes for its business, some of which could be described as nothing short of a disaster.
Alex Wong
Alphabet Inc. (NASDAQ:GOOG, NASDAQ:GOOGL) aka Google shares have been on a winning streak recently, as the improvement of the overall market sentiment caused by the injection of additional liquidity into artificial intelligence (“AI”) stocks made it possible for the company to appreciate by over ~15% since my latest article on it was published last month. I’ve recently sold my position in the company, as it reached my target faster than expected and I intend to reopen a long position later on if Google’s price goes below ~$110 per share as a result of the potential market correction due to the rebalancing of portfolios from growth to value.
However, even though there’s an opportunity for Google’s shares to appreciate in the foreseeable future if the overall economy improves and its business starts to perform better than expected, there’s nevertheless a possibility that the company’s operations would be disrupted by the end of this decade due to the breach of antitrust laws. As such, this article will highlight the latest moves of the regulators against Google, explain why the company’s existing business model is under a threat of disruption and outline the potential outcomes for its business which could be described as nothing short of a disaster.
European Commission Strikes Again
Half a year ago, I wrote an article about Google that was focused solely on highlighting most of the regulatory risks that the company faces. In that article, I noted how Google has been required to pay over €8 billion in fines that were imposed on it by the European Commission in recent years for the breach of antitrust laws. At the same time, I also stated that investors should expect additional regulatory actions against the company which could undermine Google’s business model, force it to break up by the end of this decade and make its stock uninvestable in the future. Considering the latest actions of the European Commission, there’s a case to be made that all of those risks are more than likely to materialize faster than anyone expects.
At the beginning of last week, Bloomberg reported that the European Commission is about to charge Google with an additional €8 billion in fines due to anti-competitive practices in its ad tech business model. On June 14, the European Commission released a Statement of Objections which informed the company of its preliminary view which stated that Google has breached European antitrust rules by favoring its own advertising services over others. At the same time, the Statement of Objections is one of the formal steps that proceed to the final verdict.
The Commission’s preliminary report indicates that Google has been abusing its dominant position in the digital advertising market at least since 2014 at the expense of others by steering businesses to its advertising exchange AdX with the help of its proprietary ad selling tools (DFP) and ad buying tools (DV 360 and Google Ads).
While the fine for this anticompetitive behavior hasn’t been revealed yet and we’re not sure whether it would be €8 billion which was the number that Bloomberg reported, Google’s core business model nevertheless remains under a risk of disruption. The European Commission believes that a behavioral remedy is unlikely to be effective and that a structural remedy is likely to be the only solution available. In other words, AdX and perhaps other advertising services of the company that are the biggest revenue generators for Google would be required to be sold in order for the business to continue to operate in the European Union. As the European Commission itself noted in the latest Statement of Objections:
The Commission’s preliminary view is therefore that only the mandatory divestment by Google of part of its services would address its competition concerns.
What’s more is that if the European Commission will prove that Google’s anticompetitive behavior has violated Article 102 of the Treaty on the Functioning of the European Union, then it could decide to impose a fine of up to 10% of the business’s annual worldwide turnover.
Even though Google will certainly appeal any such decision, there’s a case to be made that it would nevertheless lose such an appeal given the company’s unsuccessful track record of fighting the European Commission in European Courts.
There’s More To Come
Even if Google somehow manages to win an appeal against the European Commission and avoid breaking up its business for now, there’s still a case to be made that it would nevertheless be forced to change its business model which would result in the decrease of the company’s competitive advantages in the digital advertising industry. That’s because the implementation of the Digital Markets Act in Europe makes it much harder for Google and its peers to collect data about the behavior of their users from different sources without their consent to deliver targeted ads.
Since the Digital Markets Act only recently came into force, Google and its peers still have time until July 3 to notify their core platforms to the European Commission and prepare their regional compliance strategies. After that, the Commission will have 45 working days to decide whether the companies of those platforms meet the threshold to be regulated under the new legislation.
Considering that Google is more than likely to be on that list since among other things it operates the biggest search engine in the region that’s used by millions of people every day, the company is expected to be designated as a gatekeeper by the Commission by the middle of September. Once that happens, Google will have time until March 2024 to comply with the Digital Markets Act after which the European Commission could start the enforcement of new rules on gatekeepers if they don’t get their houses in order.
On top of that, the gatekeepers face a fine of up to 10% of their worldwide annual turnover if they violate a Digital Markets Act. Considering that Google’s business model is successful mostly thanks to the wide range of tools that collect data about the users who use its platforms and later receive targeted ads, it’s likely that the company’s operations are about to be seriously disrupted under the new rules, which would undermine its competitive advantages.
From Bad To Worse
At this stage, Google has no real leverage to undermine the regulatory efforts of European antitrust watchdogs and avoid a major disruption of its operations under the new rules. While I believe that the overall improvement of the economy could help Google perform better than expected in the following quarters and make me reopen a long position in the company, the investment attractiveness of its stock will likely begin to decline with each passing year. This is mostly due to the fact that Google will appeal any decision of the European Commission that targets its business, after which it would take a few years of litigation in European Courts and would likely result in the favor of the regulators in the end.
Therefore, under any scenario, Google would likely be required to pay a massive fine that would drain a significant portion of its liquidity and downsize its business which would strip the company from its competitive advantages. At the same time, leaving the European Union is also not an option as the company would lose its second biggest market after the U.S. and undermine the investment attractiveness of its stock even more. As such, the outcomes that Google’s business faces could be described as nothing short of a disaster, since most of them are likely to begin to materialize with each passing year.
Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. 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.
Bohdan Kucheriavyi and/or BlackSquare Capital is/are not a financial/investment advisor, broker, or dealer. He's/It's/They're solely sharing personal experience and opinion; therefore, all strategies, tips, suggestions, and recommendations shared are solely for informational purposes. There are risks associated with investing in securities. Investing in stocks, bonds, options, exchange-traded funds, mutual funds, and money market funds involves the risk of loss. Loss of principal is possible. Some high-risk investments may use leverage, which will accentuate gains & losses. Foreign investing involves special risks, including greater volatility and political, economic, and currency risks and differences in accounting methods. A security’s or a firm’s past investment performance is not a guarantee or predictor of future investment performance.
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