This Digital Giant Outperforms through Data and AI

The last few years we have seen a solid stock market growth in tech companies. However, one of the giants really dwarfs the others in a sustainable and future proof way by truly capitalizing on their data and AI capital.

Forecasts predict that Data and AI will account for more than half of world GDP, so companies better start investing smartly in these areas fast. In Make your Data a Source for Peak Growth I introduced a model for efficient data capital management to maximize company returns. Let’s apply the model to benchmark three of the major companies often seens as forerunners in data monetization and AI in the consumer space: Google, Amazon, Facebook.

Wonder who wins? I know my good friend Irena (who urged me to do this comparison) is really curious! I was surprised by the result.

First, look at the stock performance. Of the three companies Facebook is outperforming with an average yearly growth in market cap over the period of 49%. During the period Facebook passed Amazon and almost caught up Google on market valuation.

Stock performance. I have extrapolated costs and earning Q1-Q3 2017 results to forecast full year returns — not exactly right since Q4 is a special quarter in consumer industries, but serves as an approximation. Market cap and book values are from end of Sept 2017.

Price per book for Amazon has reduced to a third in the period. This is driven by a large increase in their assets in properties, buildings, and equipment, but also a large increase in goodwill (driven by acquisitions). They are investing heavily in traditional fixed assets and are buying companies.

Price per book for both Google and Facebook on the other hand have risen steadily in the period in a similar fashion indicating that their growth is driven though intangible assets that typically are expensed immediately and not capitalized. This can indicate an expected growth from brand and marketing, but growth through data and AI is also another likely interpretation.

Now, lets dig into more into the analytics behind the numbers (Again, I refer to my precious article for the background info). Why is Facebook such a favored investment? Studies show that companies that have healthy ROCE ratios (Return on Capital Employed) also have high Price / Book ratios and stock returns, meaning that future expectations are high. Stock markets value companies for growth, but not revenue growth for growth’s sake. How has ROCE developed for these three companies? Not surpisingly, Facebook stands out of the three as well. The financial numbers trend with Facebook’s stockmarket performance.

ROCE calculations for the three companies.

ROCE can also be stated in the Dupont relation (ROCE = Capital Turnover * Operating Margin). We see how Facebook has steadily improved both Capital Turnover (through higher growth in revenues compared to their assets) and Operating margin (more efficient operations) over the period. The combination is the secret to the sustainable growth.

Observe how Amazon differs as an operation to Facebook and Google in this breakdown. As a typical retail operation, Amazon has a very high capital turnover and low operating margin compared to the two others that are more balanced on the two components. Just looking at the numbers however, what is worrying is how both of these drop radically for Amazon. Lets hope Christmas sales will give them a boost and that all the investments done by Amazon in 2017 actually deliver value going into 2018 and increase their performance again.

Finally lets calculate the data and AI performance of the companies. This is were its all revealed, so stay focused. Data capital is not explicit in the balance sheets. Neither are data and AI revenues and operational expenses attributed to specific activities in income statements. Hence, we need to make some assumptions based on public knowledge about the companies to set the measures, while staying prudent. I do know that this will not make it as accurate as I described in the original article, but it gives us an approximation:

Assumptions made to from the financial statements to calculate the data related KPIs.

Based on the assumptions, below we show the return on data capital (RODC) and its components for the companies. Notice how only Facebook has growth in its return on data capital, and it is significant. Facebook is basically acing the two others.

Return on Data Capital for the three Digital Giants.

Looking at the data capital turnover — how well they are turning their data capital into sales — all three have a high values but Facebook has the strongest growth. Unlike physical assets, data capital is non-rivalrous: A single piece of data can be used by multiple algorithms, analytics, or applications at once. This means that focusing on this area is profitable as it scales massively without massive increase in investment or costs. It also seems as if Facebook is the only company that is improving the efficiency of its data and AI operations (as the data operating margin is increasing). The other two have a reduction.

You might say that the presented calculations for return on data capital are based on assumptions that are not correct. In a way, you are right. The numbers are probably not “correct” and with more insight and knowledge would be set differently. However, the numbers give a strong indication into a connection between company stock and being data driven:

a) The most data driven company of the three is Facebook and it has the strongest return on its data — by far.

b) Facebook has the strongest financial performance and healthy growth metrics.

c) Facebook has the strongest two year growth on the stock market. Expectations are high for its future.

d) It seems as if the three facts above are well connected and is a good recipe for success. Efficient focus on data and ai will drive profitability for a wealth of industries in the near future.

When starting this analysis, my assumption was that Google is the true data and AI company in the pack (after all — that is their strategy). I was wrong, Google is moving steadily ahead at the same returns, but Facebook is capitalizing their data in a much more forceful way. That is paying off for their owners in very strong stock returns.

Among the three, I would invest in Facebook. Full disclosure though — I am a complete data and AI nerd and believe that is the secret to future growth.

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Founder and CEO of SMOC.AI