Quick Thoughts: GOOGL/FIT Makes a Lot of Sense
SEE LAST PAGE OF THIS REPORT Paul Sagawa / Tejas Raut Dessai
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October 28, 2019
Quick Thoughts: GOOGL/FIT Makes a Lot of Sense
- GOOGL reportedly made an offer for FIT, which would complement its “ambient computing” strategy and its interest in health tech. AMZN, which had a deal to integrate Alexa into Fitbit watches, could counter.
- This follows GOOGL’s relaunch announcement for PixelBuds, a device category with extraordinary potential that has been underdeveloped by AAPL and others. Combined with an AI assistant, we believe important new use cases will emerge within the “ambient computing” paradigm.
- Gesture controls, added to the just announced Pixel 4 smartphone, could add an important new modality that could be integrated to smart watches and earbuds, further reducing the importance of text and clicks as the primary input mechanism.
- We recently wrote of the very different computing paradigms underlying GOOGL and AAPL’s business strategies (Smartphones: The Market is Mature – Now What?). We see GOOGL’s interest in FIT and its recent product introductions as entirely emblematic of its view on the future of computing.
- One-time items (e.g. a relative $2B drop in the value of equity investments, a $500M hit to G&A from a legal settlement) drove GOOGL’s 3Q EPS miss. Top-line performance was excellent, while TAC and cost-per-click were stable. We are buyers.
Reuters is reporting that Alphabet has made an offer for smart watch pioneer Fitbit, which, according to other reports, has been soliciting acquisition bids after a few years of losing ground to the Apple Watch. The market seemed to like the idea, taking both stocks higher in trading before Alphabet’s 3Q earnings announcement. The deal, which would certainly cost the Google parent less than $2B, would be a nice fit with the search giant’s strategy of “ambient computing”, which is, essentially, making it as easy as possible to access the Google suite of online services from wherever you are, whenever you like. Alphabet had been rumored to be at work on its own, internally developed, smart watch and many were surprised that no device in the category was announced at the company’s recent product intro confab. Perhaps, this is why.
Fitbit holds on to about 6-7% of the smart watch market, having been lapped several times by Apple and passed by Samsung and Chinese brands Huawei and Xiaomi. Still, it has firmed its share recently with its well-received Versa watch and has pushed the envelope on the health monitoring aspects of product. It has introduced online subscriptions for analyzing health data from the device and development deals with several healthcare industry stalwarts, including a recent agreement with the Bristol Myers Squibb/Pfizer alliance to design an early warning system for Atrial Fibrillation, the most common heartbeat irregularity. This focus fits nicely with Google’s priorities – it has made substantial investments in healthcare tech, from its anti-aging research at Calico, to contact lenses that monitor blood sugar for diabetics, and AI systems that can diagnose cancer from medical images.
Fitbit’s weakness has been integration with the non-health functionality of the user’s digital life. An Apple Watch closely ties to the iPhone, enabling native use of applications like iMessage, Siri, Apple Pay, Apple Music and others, while Fitbit has much more rudimentary support. For example, it only recently added support for Spotify. Google will clearly help here, adding stronger support for Google apps, likely adopting its WearOS with its ties to Android, and amping up engineering support behind the products. Eventually, we imagine Google will morph Fitbit into a broader platform spotlighting its Assistant AI solution and tightly integrating Maps, YouTube, YT Music, Gmail, and other cloud-based franchise services. With 5G and its low-power, low speed option, much of this might be possible without requiring Bluetooth tethering to an Android smartphone. This would be a big step toward Alphabet’s vision of ambient computing.
The Fitbit rumors come close after Google’s product announcement event, where in addition to its new Pixel 4 smartphone flagship, it announced a re-do on its poorly received PixelBud earbuds (and no new watch). Smart earbuds are another possible venue for ambient computing. Google’s version will feature its Assistant answering questions and making suggestions via an Android smartphone. Next year, perhaps it will add gesture controls using the same radar system it included in the Pixel 4. Verbal and gesture commands could also control the smartphone at times when it is inconvenient for the user to spare a hand. Ultimately, as 5G radios get small and power efficient, earbuds might be able to interface directly with the cloud, bypassing the smartphone entirely.
We wrote a much longer piece on mobile devices that contrasts Google’s ambient computing paradigm with Apple’s smartphone dominated worldview (Smartphones: The Market is Mature – Now What?). With the global smartphone market largely saturated and replacement rates stagnant, even Apple sees the future in its services and peripherals. In this scenario, we believe the cloud-based and device agnostic Google approach will have more room to grow. This is apparent in Alphabet’s reported financials, where its ad sales continue to click along at a steady 20% pace while new opportunities to flex the company’s technical chops in transportation, healthcare, financial services, e-commerce and other arenas offer substantial long-term upside. We are not at all concerned for the EPS miss just reported, as it was clearly the result of two major one-time items – a $2B drop in the value of equity investments forced by an accounting change and a $500M legal settlement that hit G&A. Absent that, earnings were as expected on sales that were ahead of consensus. We are buyers.