Cloud – Fountainheadinvesting

I had recommended Alphabet (GOOG) as a great long-term buy between $150 and $170 on several occasions.

Last evening, Google knocked it out of the park with really stellar results. I bought more shares this morning, and am reiterating a Buy.

I believe analysts’ consensus earnings are a bit conservative and Google will continue to beat estimates with better growth and operating margins.

Google’s earnings quality is better than several tech giants for the following reasons.

It has a near monopoly in Search
Market leadership in media with YouTube.
A strong first-mover advantage with Waymo.
A fast-growing Google Cloud business, third only to and catching up with Azure and AWS.

Its earnings and growth are sustainable, thus it deserves a better valuation and multiple.

Let’s take a closer look at Q3 earnings.

Q3 GAAP EPS came in at $2.12 per share, beating expectations of $1.85 per share $0.27, or 14% – This was a substantial beat.

Revenue of $88.3Bn (+14.9% Y/Y) beat by $2.05B or 3%.

Consolidated Alphabet revenues in Q3 2024 increased 15%, or 16% in constant currency, YoY to $88.3Bn reflecting strong momentum across the business.

Google Services revenues increased 13% to $76.5 billion, led by strength across Google Search & other, Google subscriptions, platforms, and YouTube ads.

Total operating income increased 34% and operating margin percent jumped a huge 4.5% to 32%.

Google Cloud revenues grew a whopping 35% to $11.4Bn led by accelerated growth in Google Cloud Platform (GCP) across AI Infrastructure, Generative AI Solutions, and core GCP products, with record operating margins of 17% as the cost per AI query decreased by 90% over the past 18 months.

Cloud titans Amazon (AWS) and Microsoft (Azure) have commanded huge valuations for their cloud computing businesses; with Google Cloud growing at 35%, it should continue to narrow the gap over the next 5 years. Also importantly, AWS and Azure have operating margins over 30%, and should Google continue to scale and leverage their existing fixed costs, they can reach the same margins. I also believe as they get better at AI, they should be able to charge more.

Based on consensus analysts’ estimates Alphabet’s EPS should grow to $11.60 in 2027 from $5.80 in 2023 – that’s an annual growth rate of 18%. Comparatively, Apple‘s estimated EPS growth through FY2027 is slower at 14%, and it sports a P/E of 33 compared to Google’s 22. Alphabet’s P/E is closer to the S&P 500’s P/E of 21!

I believe this is too low, and there is a lot of potential for its stock to appreciate just on the lower valuation.

Besides the strong EPS, a lot of Google’s expenses are noncash depreciation and amortization and their cash flow margins are strong. They generated operating cash of $31Bn on $88Bn last quarter, or a 35% cash flow margin.

The antitrust regulation will remain a possible negative on Alphabet, but the final decision is still years away as Alphabet vigorously appeals the decision.

I recommend Alphabet as a buy at $176

Q2-24 Earnings

June revenue at Alphabet grew 5% sequentially from March to $84.3 billion, a 13% year-over-year rise and a bit of a deceleration from March’s 15.4% year-over-year rise.

Q2 GAAP EPS of $1.89 beats by $0.04.

At $180, Alphabet is priced at only 21-times 2025 earnings. Very reasonable for a member of the M-7, search market leader, AI pioneer, and owner of You-Tube.

Why is it down post earnings: WSJ’s title was apt Google Fails to ‘Wow’ as AI Bills Mount

Overall revenue exceeded Wall Street’s consensus projection by just 0.6%—the lowest beat percentage in at least five years,

Capex = $49Bn for the year, this was mostly expected but still got a thumbs down, because depreciation will hurt the bottom line.

Google has to spend to keep up – it doesn’t have a choice.

“Look, obviously we are at the early stage of what I view as a very transformative area,” Alphabet Chief Executive Sundar Pichai “the risk of underinvesting is dramatically greater than the risk of overinvesting for us here,” not mentioning the record amounts of capex that tech rivals Microsoft, Amazon and Meta Platforms are pouring into the same thing.

Rejected Alphabet’s bid for $23Bn – I think that’s actually good for Google, at 46x current year sales. Granted this would have given them a considerable leg up in cybersecurity – but is a $500Mn revenue company, which would never move the needle for the behemoth.

I own GOOG, and plan to hold for a long, long time, it’s been recommended on several occasions here. I could buy more if the price drops but given the change in sentiment towards big tech I’m happy to sit on the sidelines for a bit.

There seems to be an inflection point – the rate of growth is going to get lower on tougher comparisons and therefore there is more hesitation to buy at inflated levels.