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Stock Analyst Update

Alphabet Has Mixed Quarter; Shares Undervalued

Google parent Alphabet's shares have become more attractive as we remain confident that the firm’s network effect and data economic moat sources will continue to drive growth.

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 Alphabet (GOOG) (GOOGL) posted slightly mixed third-quarter results with revenue a bit light because of a foreign exchange headwind, while operating margin came in above our estimate and in line with consensus. 

Growth in ad revenue remained strong, which we think demonstrates the health of Alphabet’s network effect economic moat source in that segment. However, deceleration in other revenue growth was disappointing. We expect revenue growth in that segment to pick up again in the fourth quarter due to the seasonally higher hardware sales and some return on Google’s continuing investment in its cloud sales team. Operating margins were helped by what appears to be some stabilization in traffic acquisition cost as a percentage of revenue. 

We have not made significant changes to our model and our $1,300 per share fair value estimate of this name is intact. The stock hit 4-star trading level yesterday and is down 3%-4% in after hours. At these levels, we think Alphabet shares have become more attractive as we remain confident that the firm’s network effect and data economic moat sources will continue to drive growth in the size and overall usage of Google’s ecosystem. 

We think this will help the firm remain the behemoth in online advertising and make further headway in consumer hardware and enterprise cloud businesses. Plus, future upside possibly brought forth by Other Bets may becoming more realistic as Alphabet’s autonomous vehicle technology provider, Waymo, has begun to test commercializing its rides.

Total third-quarter revenue came in at $33.7 billion, up 21% year over year and 22% in constant currency. Ad revenue grew 20% from last year to $29 billion on the back of the continuing increase in mobile device usage and more viewership of content on YouTube. Demand for ads on Google properties remains strong as ads sold were up 62% from last year, impact of which was partially offset by a 28% decline in prices.

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Ali Mogharabi does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.

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