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After trailing the broader markets by a wide margin in 2022, big-tech companies such as Alphabet (GOOGL) have staged an impressive comeback year-to-date. While the S&P 500 ($SPX) (SPY) index is up 7.12%, Alphabet stock has gained more than 32% in 2023. The current market cap of Alphabet is a staggering $1.49 trillion.
However, GOOGL stock is still down about 21% from all-time highs set in October 2021. Let’s see if Alphabet can continue to outpace the broader markets going forward.
The bull case for Alphabet
In Q1 of 2023, Alphabet reported sales of $69.8 billion, an increase of 3% year over year. A significant portion of this growth was powered by Google Cloud revenue that surged 28% to $7.5 billion. Moreover, Alphabet confirmed its cloud business is now profitable after the segment posted a cumulative $6 billion loss in the last two years. Google Cloud will also be a key driver of the company’s bottom line over time, given that Amazon’s (AMZN) Web Services reports an operating margin of around 30%.
Alphabet is the largest digital ad platform in the world, and its ad sales stood at $54.5 billion in the March quarter, accounting for 78% of total revenue. While ad sales were flat year over year due to lower enterprise spending, growth should accelerate once the macro environment improves.
Google is the undisputed leader in online search providing the company with an enviable competitive moat. Yes, it is trailing Open AI and Microsoft (MSFT) in the artificial intelligence race, but Alphabet recently released Bard, a proprietary AI-powered chatbot.
The launch of Bard was lukewarm and disappointing, to say the least; however, the tech heavyweight has enough resources and capabilities to gain traction in this rapidly expanding market. During its I/O developers conference earlier this week, Alphabet CEO Sundar Pichai showcased a slew of new products and services with a primary focus on AI. Similar to Microsoft’s Bing, Alphabet will also integrate Bard with Google Search.
Armed with decades of consumer search data, Google Search and Bard should continue to thrive despite competition from Bing and Open AI’s ChatGPT. Alphabet also announced a partnership with Character AI, a company that is building AI chatbots by leveraging the AI tools of Google Cloud.
Alphabet's YouTube, which is one of the largest streaming platforms globally, reported revenue of $6.7 billion in Q1, a decline of 2.6% compared to the year-ago period. In case recession fears are true, investors can expect a few more months of tepid enterprise ad spending.
However, the cord-cutting phenomenon is bound to accelerate globally, where users continue to consume content online instead of on traditional Pay TV and cable channels. A report from market research firm Nielsen stated that YouTube accounts for almost 7.8% of the total viewing time in the United States, which is higher than Netflix (NFLX) at 7.3%.
YouTube introduced Shorts to fight off competition from TikTok and Instagram Reels. It crossed 50 billion daily views in Q4 of 2022, up from 30 billion in the March quarter of 2022. YouTube is well poised to benefit from multiple secular trends, which should positively impact its ad sales in the future.
The Bear Case for Alphabet
Microsoft has a sizeable stake in Open AI, the company which is leading the AI race right now. So, Alphabet might find it difficult to compete with another tech behemoth exposing its search engine to multiple threats.
In case the macro economy remains sluggish for an extended period of time due to quantitative tightening measures and elevated inflation rates, there is a good chance for Alphabet to experience another year of decelerating growth in revenue and profit margins.
Additionally, 40% of the GenZ populace use social media platforms such as TikTok and Instagram for search instead of Google. TikTok is the fastest-growing social media application and is forecast to snag a 37% market share in the online ad space by 2027, which is exceptional. This disruptive trend may eat into Alphabet’s ad revenue, slowing its growth drastically.
The Final Takeaway
Analysts tracking Alphabet stock expect its revenue to grow by 6.2% to $300.3 billion in 2023 and by 11.3% to $334.2 billion in 2024. Its adjusted earnings are forecast to expand from $4.56 per share in 2022 to $6.25 per share in 2024. So, GOOGL stock is priced at 4.06x forward sales and 18.9x forward earnings, which is not too steep for a growth stock.
I believe Alphabet’s widening portfolio of AI products, expanding profit margins, and reasonable valuation make it a top bet for long-term investors.
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