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Regulatory Risks for Alphabet and Facebook Are Priced In

We think both companies' competitive advantages are sustainable.

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The U.S. Department of Justice could be starting an antitrust investigation of  Alphabet’s (GOOG)/(GOOGL) Google, and it appears that the Federal Trade Commission will do the same regarding  Facebook (FB), according to Wall Street Journal reports. While Google may have been accused of some anticompetitive behavior, including some bias in search results, in the past--it reached a settlement with the FTC in 2013--we think it has attained its dominant positions mainly through creating and leveraging the network effect moat source that most of its offerings have, which results in significant benefits for consumers, rather than through anticompetitive behavior. The same can be said of Facebook and its various assets, including Facebook News Feed, Instagram, and WhatsApp. For this reason, we think the competitive advantages of both companies and their ability to generate excess returns on invested capital remain sustainable.

While it is not clear when the investigations will begin and whether any legal action will be taken, we believe it is far too early to begin handicapping the potential impact on either company. In addition, it’s important to remember that Google has faced relatively modest fines (with respect to its total annual revenue and market capitalization) after a decade of investigation in Europe. We believe regulatory risk is now more than priced in to Alphabet stock, which is now trading in 4-star territory. We are maintaining our $1,300 fair value estimate for Alphabet and recommend buying this wide-moat and high-uncertainty name. Facebook stocks remains in 3-star territory, and we recommend a wider margin of safety before considering investment.

Ali Mogharabi has a position in the following securities mentioned above: AAPL. Find out about Morningstar’s editorial policies.