After Earnings, Is Alphabet Stock a Buy, a Sell, or Fairly Valued?

Alphabet GOOG/GOOGL released its first-quarter earnings report on April 25. Here’s Morningstar’s take on Alphabet’s earnings and stock.

Key Morningstar Metrics for Alphabet

• Fair Value Estimate: $179.00
• Morningstar Rating: 3 stars
• Morningstar Economic Moat Rating: Wide
• Morningstar Uncertainty Rating: High

What We Thought of Alphabet’s Q1 Earnings

• As seen in Meta Platforms’ META results, the digital advertising environment remains very strong. Alphabet reported 5% growth in paid clicks across Google properties (mostly search), in line with the prior quarter, but revenue per paid click growth accelerated to 8% from 7% last quarter. Traffic on Google’s ad network, which serves other publishers, declined sharply versus a year ago (13%), reflecting the continued shift of these publishers to non-Google platforms, but revenue per ad impression was up 14%.
• Like Meta, the firm highlighted that Asia-based retailers have continued to support demand and advertising pricing, and it said it will lap the influx of this demand as the year progresses.
• Google Cloud revenue growth showed a nice acceleration to 28% from 26% last quarter, spurred by demand for the company’s artificial intelligence tools.
• Alphabet remains committed to investing in AI to drive growth across its offerings, including advertising and Cloud. But it is also pushing to drive efficiencies where it can. The firm’s headcount is gradually shrinking, and it’s integrating teams to reduce redundancies.
• Implementing a dividend won’t drive a huge yield for shareholders—the stock yields about 0.5% at the initial payout. But the dividend will likely grow nicely over time, and this move demonstrates a commitment to maintaining some discipline around investment back into the business.

Fair Value Estimate for Alphabet

With its 3-star rating, we believe Alphabet’s stock is fairly valued compared with our long-term fair value estimate of $179, which implies an enterprise value of about 13.5 times our 2024 adjusted EBITDA estimate, which excludes share-based compensation. We fully incorporate this cost into our fair value estimate. We now assume a five-year compound annual growth rate of 9% for total revenue, up from 8% previously, and a five-year average operating margin slightly above 30%.

We expect advertising revenue to remain over 70% of Alphabet’s total sales, driven by continuing growth in digital ad spending, albeit at a much slower rate than historically. We model 9% ad revenue growth for 2024, down from more than 10% over the second half of 2023, as the rebound in ad spending resulting from diminishing economic uncertainty and increased spending from Asia-based retailers runs its course. We have estimated total Google ad revenue of $257 billion in 2024 and $275 billion in 2025. In addition to continued search growth, we think YouTube will benefit from its impressive reach and usage frequency, plus its video-only content format, which is attractive to brand advertisers.

Read more about Alphabet’s fair value estimate.

Economic Moat Rating

We assign Alphabet a wide moat, thanks to durable competitive advantages derived from the company’s intangible assets, as well as its network effect.

We believe Alphabet holds significant intangible assets related to overall technological expertise in search algorithms and AI (machine learning and deep learning), as well as access to and accumulation of valuable data for advertisers. We also believe Google’s brand is a significant asset. “Google it” has become synonymous with searching, and regardless of actual technological competency, the firm’s search engine is perceived as being the most advanced in the industry. While Microsoft’s MSFT Bing is attempting to dethrone Google with AI technology from OpenAI, we think the firm can defend its dominance in search with its own AI technology, some of which OpenAI’s products are based on.

Read more about Alphabet’s economic moat.

Financial Strength

Alphabet has a strong balance sheet, with cash and cash equivalents of $111 billion versus total debt of only $13 billion as of the end of 2023. The company also has a $4 billion revolver with no outstanding balance. Over 60% of the company’s cash and cash equivalents are held outside the United States.

Read more about Alphabet’s financial strength.

Risk and Uncertainty

Our Uncertainty Rating for Alphabet is High. While we remain confident that Google will maintain its dominant position in the search market, a long-lasting downturn in online ad spending could harm the firm’s revenue and cash flow. On the other hand, positive returns on Alphabet’s investments in cloud and moonshots could considerably increase our fair value estimate.

Google faces antitrust pressure and various claims and investigations from different regulatory agencies regarding search bias and its overall market dominance in online advertising. Some governments may forbid access to some of Google’s properties, which could result in lower user growth and monetization. Similarly to Meta, Google faces limitations on mergers and acquisitions as the US and other countries attempt to lessen the firm’s dominance in advertising and the internet market.

Read more about Alphabet’s risk and uncertainty.

GOOG/GOOGL Bulls Say

• As the number of online users and usage increase, so will digital ad spending, of which Google will remain one of the main beneficiaries.
• Android’s dominant global market share of smartphones leaves Google well-positioned to continue dominating mobile search.
• The significant cash generated from the Google search business allows Alphabet to focus on innovation and long-term growth opportunities in new areas.

GOOG/GOOGL Bears Say

• There is little revenue diversification within Alphabet, as it remains heavily dependent on Google and search advertising.
• Alphabet is allocating too much capital toward high-risk bets, which face a very low probability of generating returns.
• Google’s dominant position in online search is not durable, as more companies and regulatory agencies are contesting the methods through which the company has been extending its leadership.

This article was compiled by Sokhoeun Noeut.