Alphabet: Google Fiber Will Eat AT&T And Verizon's Lunch

| About: Alphabet Inc. (GOOG)


Google acquired Webpass as a way to expand its fiber footprint in key geographic markets.

Clear indication that Google is committed to scaling this business and competing directly against the telcos/cablecos.

Long-term negative to T and VZ given the pricing power erosion on increased competitive outlook.

Google (NASDAQ:GOOG) (NASDAQ:GOOGL) acquired gigabit ISP provider Webpass. This allows the search giant to expand its non-search product offerings and footprint. With search facing market maturity, I have often argued that non-search drivers such as YouTube, wireless, payment, broadband and driverless cars will be critical drivers for GOOG's long-term growth outlook.

The Webpass acquisition certainly fills this void because GOOG has proven it can be competitive against the incumbent ISPs such as AT&T (NYSE:T) and Verizon (NYSE:VZ) in markets where Google Fiber is available. A broader roll-out will continue to pressure telco/cableco broadband pricing power and this is certainly a negative even when the cablecos are looking to roll out DOCSIS 3.1 to achieve high ROI.

With broadband becoming a key determinant of ROI within telcos and cablecos due to the cord-cutting and wireless substitution trend, competitive risk from internet companies such as GOOG and Facebook (NASDAQ:FB) cannot be underestimated. I remain cautious on the sector in the long term, but I will continue to buy into the sector in the near term due to their dividend yield. My picks would be T and VZ, but long term, I prefer GOOG and FB.

GOOG's acquisition of Webpass is a clear indication that the search giant is committed to the fiber business and turning it into a competitive unit that could rival that of the incumbent ISPs. However, even with this acquisition, Google Fiber remains a small portion of GOOG's overall revenue profile and is unlikely to meaningfully impact its financials.

When we look at the Other Bets, which includes fiber, driverless cars, and other moonshot projects, total revenue was $448m in 2015 with home automation (i.e., Nest) accounting for a majority of the revenue.

With presence in only 5 cities across the US and 19 more to come, Fiber's total footprint remains small and will unlikely to be a material segment until at least 2020. However, what it is clear is that GOOG is committed to this project and this could potentially become meaningful overtime.

A bit of background on Webpass - the company is a San Francisco-based ISP offering broadband services to both residential and businesses. Only 20k customers total across its markets in San Fran, Oakland, San Diego, Miami, Chicago and Boston, all the key markets where GOOG can certainly disrupt the local incumbents. These would be a nice addition to the current Google Fiber markets that include Kansas City, Austin, Atlanta, Nashville, and Provo. Additional markets will include San Antonio, Salt Lake City, Huntsville, Charlotte, and Raleigh.

Wherever Google Fiber makes a presence, the incumbents will always match that of GOOG's gigabit service pricing, which shows how pricing power is nonexistent among the incumbents in the face of the internet companies. This will be a long-term negative to VZ and T, given that broadband is widely perceived as the only place where they can achieve pricing power due to the cord-cutting pressure in TV and wireless substation in landline telephones.

This is also an area where cablecos can generate the highest ROI with the transition towards DOCSIS 3.1 standard. If GOOG achieves a broader footprint, this will seriously dent the incumbent pricing power that will ultimately lead to lower free cash and higher risk to dividend. That said, long-term dividend yield for the telcos appears to be safe but the long-term outlook is a negative. I prefer FB and GOOG in the long run over the telcos.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any 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.