A company's Return on Invested Capital is the ultimate measure of a company's valuation. it's not the PE, EPS, etc. Basically, ROIC is a measure of how efficient a company is in using its capital to generate returns. Warren Buffet uses ROIC to evaluate companies. Let's compare Apple and Google's ROIC. Apple's return on invested capital is 30.4% with a 5-year average of 26.1% despite Apple having lower gross profit margins compared to Google. a 30.4% ROIC is amazingly high for a "hardware company". Google's return on invested capital is only 18.3% with 5 year aveage of 17.2%. Why?

Different types of growth earn different degrees of return so not all growth is equally value-creating. Growth strategies based on organic new product development (ie. iPod, iPhone, iPad, iMac, etc.) frequently have the highest returns because they dont require much new capital. Apple can add new products to their existing factory lines and distribution systems, without much capital expenditure. The investments to produce new products are not all required at once. If preliminary results are not promising, future investments can be scaled back or canceled. Contrast this with Google's growth strategy of acquiring companies (Motorola, Youtube, Android, Doubleclick, etc.). Acquisitions require that the entire investment be made up front. The amount of up-front payment reflects the expected cash flows from the target company plus a premium to stave off other bidders. So even if Google can improve the target company enough to generate an attractive ROIC, the rate of return is typically only a small amount higher than its cost of capital. Factor in the additional traffic acquisition costs and costs of running hundreds of thousands of servers to support Google search, Youtube, Blogspot, GMail, etc. and you'll see why Google's return on invested capital is much lower compared to Apple. Google has a habit of wasting money on money-losing initiatives with low ROIC (Google's $280-million solar power initiative, self driving cars, etc.). Wall Street perceives the $12.5 Billion Moto acquisition as an expensive and inefficient use of capital that will further dilute the company's ROIC. Motorola's acquisition does not create or add value to Google. it actually destroys value, at least until Google recoups the $12.5 Billion acquisition cost. This is the reason why Apple is the most valuable company in the world. Meanwhile, Google's market cap's been stuck in the $170-$200B range for a couple of years now.

Here's the number one rule of conservation of value: anything that doesn't increase cash flows doesn't create value.