Final Project

Erica Williams

Kaplan University

GB550: Financial Management

December 3, 2013

Table of Contents

I – Abstract

II – Introduction: Google, Inc.

II.I – Capital Structure

II.II – Key Words

III – Google Capital Structure

III.I – Capital Structure Issues

III.II – Risks of Capital Structure

III.III – Modigliani and Miller (MM) Theory

III.IIII – Implications and Evidence of Capital Structure

IV – Estimations and Conclusion

V - References

This research will analyze and view Google, Inc. finance as well as its capital structure in

order to determine whether the quality of the organizations liabilities structure exists. The

following research will investigate how the company finances its assets, findings using online

tolls to indicate financial performance both currently and over a period of time will be provided.

In order to understand capital structure decisions affect Google, Incs. return on investment

(ROI), return on equity (ROE), return on invested capital (ROIC) and the risk profile the capital

structure theory, debates and issues will be examined.

In order to accurately display how capital structure choices affect how Google Incs

profitability measures a close look will be taken to review the companies profits generated with

the amount of money the shareholders have invested. This will be done by evaluating financial

ratios and figures provided by various online websites. Yahoo.com and Reuters.com are two of

what will be reviewed. The research will also include data from studies pertaining to the results

of Google Incs capital structure as well as analyze the pros and cons with a thorough evaluation

and review of the functions and market standpoint. Google is anticipated to have succeeded over

the past several years in financing its assets through a combination of debt, equity and several

hybrid securities.

1. Introduction: GOOGLE, INC.

Google, Inc, an index member of Nasdaq 100 is one of the most successful global technology

company taking over in numerous countries. Google is also the world’s most popular

marketplaces offering products and services that is centered around finding better ways for

people to connect and network with information. Google are particularly proud of themselves

since they strive in the market of online content for advertisers and users through enabling of ad

displays automated by an auction-based program designed by them (Reuters.com). Analysts

would note that based on the consensus of the population, the company’s equity is of the highest

value since they are currently ranked as industry leader in market capitalization (Yahoo Finance).

1.1 Capital Structure

As much as market cap measures to what’s related to the company’s equity value, a firms

decision is based on its capital structure and estimates more drastically to how the value of that

company is allocated not only for the return on equity but accounting for debt as well.

Economists would refer to capital structure as the mix of a company’s long-term debt, the

common and preferred stock and the current portion of it. Large tech-companies today have

been taking advantage of capital structure optimizations as it is placed shoulder to shoulder to

growing return on equity ultimately lowering weighted average costs of capital for long-term

investment. It is how a corporate manager should base his/her decisions on financing the

company’s assets and operations through various growth prospects and forecast estimates. To

evaluate further, the composition of Google’s capital structure the focus will be on the

company’s key statistics and research data from the selected top online providers of financial

statements, including Google!

1.2 Key Words

Capital structure; capital structure theory (CST); weighted average cost of capital (WACC);

capital asset pricing model (CAPM); Google, earnings before interest, tax, depreciation and

amortization (EBITDA); economic value added (EVA); return on investment (ROI); return on

equity (ROE); return on invested capital (ROIC); and its risk profile.

2. Capital Structure of Google

Google’s optimal capital structure is that of the mix of debt and equity that maximizes the

stock price to ensure that structure is financially supported. Equity and debt must specifically be

measured. To better understand how to direct a manager’s abilities and effort to more accurately

close in to more out-earnings of its cost of capital and/or positive changes in economic value

added (EVA) and this applies if any should exist for any firms.

The amount of debt totaling up over the years for Google has barely dented the amount of equity

value it holds. Long-term debt began to show an increase for Google in 2012 with an amount of

$2.9 billion from a $0 start in 2010. A combined debt amount of long and short-term debt,

which includes notes payable, should do its justice for Google and the total debt in 2011

amounted to $4.2 billion. This debt is against a goliath economic value when in contrast with

common equity amount of $71.71 billion.

2% 5%

93%

Capital Structure of Google, Inc., 2012

Notes payableLong-term debt Total common equity

2.1 Preview of Capital Structure Issues

A corporations finance is subjected to a precise target of capital structure and it is no doubt

towards the ideal one and direct with the measure of value which may change over time in which

the end result may vary largely corresponding with the role of management and their series of

choices leading them to different paths. Recent studies show that managerial traits have strong

effects on the outcome of capital structure choices, resulting in higher debt levels and/or issues of

new debt more often according to their choosing (Hackbarth, D., 2008). In addition, just as for

any other firms, the online giant is surprisingly one who may also be equally prone to these

mistakes.

2.2 Capital Structure Risks

Depending on manager-specific characteristics and how much of an effect on capital structure it

has on a firm’s earnings must be well diversified. According to recent research, the firm’s

capital structure is dynamic and consists of long-term short-term debt, and inside and outside

equity (Bhagat, S., Bolton, B., & Subramanian, A., 2008). With that being said, the role of

management is directly associated with obtaining capital. A model which includes earnings

before interest, taxes, and the manager’s compensation needs to be measured in order to avoid

this particular risk in capital structure. Below is the outcome produced using EBITM measures

associated with a firm’s debt structure.

Effect on Capital Structure. (Bhagat, S., Bolton, B., & Subramanian, A., 2008)Long-term debt declines with the manager’s ability Decreases with his/her inside equity

ownership in the firmShort-term debt declines with the manager’s ability Increases with his/her equity

ownershipLong-term debt increases with earnings risk Decreases with project risk

2.3 Modigliani and Miller (MM) Theory

Modigliani and Miller formed modern thinking on capital structure. In the absence of taxes, ,

asymmetric information, agency costs, bankruptcy costs and in an efficient market, capital

structure does not really matter, meaning the value of the firm is not affected by capital structure.

i. Criticisms of MM

When account taxes, bankruptcy costs, etc. are taken into account debt provides a tax shield.

Too much debt raises bankruptcy costs and the cost of debt. In the real world, when calculating

the costs of financing, the cost of equity is more expensive than the cost of debt. This is because

if a firm goes bankrupt then the debt holders are paid first. Whatever is leftover goes to the

equity holders, which most of the time is nothing. Making equity riskier than debt.

2.4 Capital Structure Evidence and Implications

Now that Google is somewhat burdened with debt in the long-run, they must stay above grounds

of the economic norms and their world’s largest figures must carefully be assigned financially in

addition to ordinary theories even though it may be insignificant to do so. There are a number of

underlying factors for Google to plan on considering leveraging their decisions that many of

which today’s mid-sized publicly traded firms in the U.S. are incorporating. According to Frank

and Goyal (2003), the following are of the most and least reliable factors to dependably meet

hand-in-hand with capital structure theory:

Most ReliablePositive effect on leverage (+) Negative effect on leverage (-) -Median industry leverage -Bankruptcy risk -Firm size as measured by sales(log) -Dividend- paying -Intangibles -Market-to-book ratio -Collateral

Less reliable effectsPositive effect on leverage (+) Negative effect on leverage (-) -Change in total corporate assets -Variance of own stock returns-Top corporate income tax rate -Net operating loss carry forwards-Treasury bill rate -Financially constrained

-Profitability

3. Google's Optimal Capital Estimations & Conclusion

Reported Values of Google Selected in 2012 FINANCIAL HIGHLIGHTS MSN Google Yahoo

Sales 37.91 Bil 37,905.00 37,905.00Income 9.74 Bil 9,737.00 9,737.00

Net Profit Margin 25.69% 25.69% 25.69%Return on Equity 18.66% 18.66% 18.66%

Debt/Equity Ratio 0.07Revenue/Share 115.83 117.43Earnings/Share 29.75 29.75 29.75

Book Value/Share 178.97 178.97 178.97

FUNDAMENTAL DATA MSN Google YahooShares Outstanding 325.14 Mil 325.14M 325.14

Market Cap 205.11 Bil 203.81B 203.81Institutional Ownership 82.40% 67% 81.80%

P/E 21.2 21.07 12.49

Return on Capital 17.5Return on Assets 18.66 11.73

EBITDA 35.53% 14.09EBIT 12,326Beta 1.09 1.08 1.19

Three financial online statement providers were collected to ensure these figures reflect

consistency. It appears that all sources show similar results and nothing significantly different.

More or less, Google is in line with unimaginative figures that many hope and dream to one day

to achieve for themselves. This firm is beyond the point of optimization in their capital structure

and the only target they must attend to is to stay on top economically and let their management

continue to push forward.

References

Brigham, E., & Ehrhardt, M Financial Management: Theory and Practice. (14 ed.). South-Western Publishing

Capital Structure. (n.d.) Retrieved from Capital Structure: http://www.capital-structure.com/index/aboutus

Google, Inc. (2012). In Reuters. Retrieved on November 19, 2013 from http://www.reuters.com/finance/stocks/financialHighlights?symbol=GOOG.O

Schmidt, H. D. D. (2012). You Cannot Buy Innovation. ASYMCO. Retrieved on November 19, 2013 from http://www.asymco.com/2012/01/30/you-cannot-buy-innovation/