There are only a handful of companies in the world that can argue they have power approaching Alphabet (ticker: GOOG, GOOGL). And ever since its initial public offering in 2004, GOOG stock has performed accordingly.
But 16 years after its IPO, the world’s leading search engine isn’t the growth dynamo it once was, its rivals are getting stronger, and for the first time, it’s an open question in Silicon Valley whether Google might eventually lose its search mojo as popular consumer tech products evolve.
Here’s a brief overview of the Mountain View, California-based technology giant, its core areas of business, and — most importantly for prospective investors — pros and cons that can help answer the question: “Should I buy Alphabet stock?”
Alphabet Stock at a Glance
In 2015, Google restructured its business and reincorporated itself as Alphabet, a holding company whose major subsidiary would be Google, the world’s dominant search company. Under the restructuring, investors were able to differentiate the results between the cash-cow Google and its money-losing “moonshot” investments in the “Other Bets” category.
Despite the separation, there’s a reason the company kept its ticker as GOOG: Alphabet is still essentially just a big proxy for its crown jewel, Google.
GOOG stock’s lifeblood is digital advertising, a massive industry that, along with Facebook ( FB), it dominates — the two companies control a combined 70% of the digital advertising market in the U .S. Google sells ads against its search results for specific terms, and also operates a sprawling ad network, placing ads on third-party sites for a cut of the resulting revenue.
With mobile overtaking desktop as the world’s preferred search device, Google’s Android operating system becomes ever more valuable; Android enjoys between 70% and 80% of global market share, and Google is the default search engine for Android.
YouTube, Gmail, Google Play, Pixel phones, Google Home smart speakers, Google Cloud and the company’s expanding hardware business are a few of the big-name products supplementing Alphabet’s bottom line alongside the search engine; in fact, given macroeconomic headwinds, these side businesses may soon become more important than ever.
As for Other Bets, it accounted for an immaterial 0.4% of Alphabet’s overall revenue last quarter and lost a disproportionate amount of money doing so. In the second quarter of 2020, Other Bets posted $148 million in revenue and an operating loss of $1.11 billion. This is where some of the wacky yet potentially huge long-term projects live, such as Google Fiber, the Waymo self-driving car unit, anti-aging research outfit Verily, a network of internet-beaming balloons and a drone delivery unit.
Pros to Buying GOOG Stock
The first and most obvious advantage to owning Alphabet stock is simply owning a piece of the biggest, baddest search engine in the world.
No matter what happens to advertising revenue, Google has firmly entrenched itself as the world’s go-to search site. The search giant controls more than 87% of the U.S. market and more than 90% of the global market share.
And for the time being, Android serves as a pretty good insurance policy against other search companies meaningfully cannibalizing mobile share.
The second pro to owning GOOG stock, aside from its big-time search engine cash cow and exceptional brand, is the company’s investment in diversification. Its portfolio of products ranges from self-driving cars to YouTube, and from artificial intelligence to cloud and voice search.
YouTube is arguably at the epicenter of the consumer transition from traditional mass-market media to dispersed, on-demand and increasingly mobile media consumption. These factors have made their way into Alphabet’s earnings report, with YouTube ad revenue increasing 6% year over year in the second quarter. While advertising revenue is Alphabet’s bread and butter, it doesn’t hurt that YouTube Premium paid subscribers have increased 60% year over year.
At this point, advertisers who aren’t shifting more of their budget to online video platforms are simply missing out.
Longer term, Google’s willingness to invest in bold new projects outside its core competency as a search engine could be precisely what allows it to continue as a growth stock despite hundreds of billions in annual revenue.
Several promising areas hold the type of game-changing potential that could launch a new era of growth for GOOG shareholders: in particular, AI and autonomous vehicles, or AVs. Alphabet’s Waymo subsidiary is already a leader in AVs, and Alphabet’s research and development investments in artificial intelligence have made it one of the best AI companies, too.
A line item dubbed “Google other,” which includes its Pixel mobile phones and Google Play, enjoyed revenue growth of more than 25% in the second quarter to $5.12 billion. Speaking of which, Google Play app and game downloads were up more than 35% year over year as people stuck at home hopped on their phones to blow off steam.
Finally, Google Cloud revenue grew an impressive 43% year over year. Like Google Play, Cloud was helped by the worldwide lockdowns this quarter as people were forced to work remotely. Millions of companies used Alphabet’s G Suite of services — such as Gmail, Drive, Chat and Meet — and millions more will continue to use those services as remote work becomes more normalized.
The final pro for buying Google stock is an open secret: Chief Financial Officer Ruth Porat. Widely respected on Wall Street and poached from Morgan Stanley ( MS) in 2015, she oversaw the reorganization of Google into the holding company Alphabet, allowing the company to show just how profitable the core search business was — and how investing in potential “moonshots” affects overall earnings. Porat’s presence gives investors the sense that there’s an adult in the room making sure spending doesn’t get too out of hand.
Cons to Buying GOOG Stock
The first thing companies do when a recession is looming is cut their advertising budgets, and that’s bad news for the biggest advertising platform in the world. Alphabet is familiar with this trend; in the last recession, the company saw its first sequential decline in revenue between the end of 2008 and the first quarter of 2009.
Alphabet hit a similar milestone this quarter with its first year-over-year decline in revenue. Alphabet reported $38.3 billion in revenue, down from $38.9 billion in the same quarter last year — not an enormous decline, but the fact that revenue dropped is a red flag for investors.
There’s nothing Alphabet can do about macroeconomic headwinds, and unfortunately there’s nothing the company can do about the fact that Amazon.com ( AMZN) exists — and is attacking the search giant on all fronts.
Perhaps the greatest long-term risk Amazon poses to GOOG is its encroachment into voice search — which might be the very future of search itself — where Amazon’s Alexa virtual assistant has a huge first-mover advantage that it’s ruthlessly capitalized on.
Amazon is also seizing digital advertising dollars, as marketers shift spending to Amazon.com’s growing platform and more lucrative product searches begin on Amazon than Google. In cloud, Amazon Web Services is the clear market leader, with Google Cloud playing catch-up and occupying a distant third place behind Amazon and Microsoft ( MSFT) Azure. Jeff Bezos’ ruthlessly opportunistic company is also devoting time, energy and resources to AI.
Taken in concert, these trends don’t look particularly good for Alphabet or inspire much confidence in its ability to churn out company-changing profits anytime soon. Amazon beat Google to market by years in smart speakers and cloud computing, GOOG’s Pixel phone has thus far proven unable to dislodge Apple’s ( AAPL) iPhone from its perch, and the company even tried to copy Facebook with its ill-fated and largely ignored Google+ social network, which was finally discontinued after seven ho-hum years.
Another thing to worry about is the specter of regulation, which is suddenly less of a specter and more an inevitability.
The European Commission fined Google a record $5 billion in 2018 for using Android’s dominance to stifle competition. While the U.S. may be slow to the draw with regulation, in mid-2019 news broke that the Department of Justice had opened an antitrust inquiry into the company. And it seems that regulation in the U.S. might truly be on the horizon, given Sundar Pichai’s recent (virtual) summons to Capitol Hill for a grilling session with lawmakers.
Lastly, while GOOG stock certainly doesn’t appear grossly overvalued, shares do trade for more than 30 times earnings with no obvious catalyst on the horizon. With slowing global growth and a flat yield curve indicating trouble ahead, the timing doesn’t seem ideal for potential Alphabet shareholders, either.
The Bottom Line for GOOG Stock
No stock is perfect, and Alphabet is no different. But the company does have an incredible competitive advantage in search and works hard to innovate and stay on top of its cash cow while diversifying its business and researching areas for future dynamic growth.
There’s no other company in the world positioned the way the Alphabet is, and that’s the most compelling fundamental reason to buy. Yes, Google is entering a new era where regulation could be a major overhang, but keep in mind Big Tech counterparts such as Apple, Facebook and Amazon are also under the microscope. And yes, economic headwinds are blowing against Alphabet right now as advertisers slash their budgets, but with the all-important holiday season fast approaching, Alphabet executives believe that advertising revenue will recover in the near term.
If you’re holding for the long term , though, and want to own one of the most compelling companies in tech, there’s nothing wrong with buying some GOOG now simply for peace of mind, and adding more if and when it pulls back.
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