Lowered fair value alphabet | the morning star

While Alphabet’s second quarter results missed consensus estimates from FactSet, we found the company’s search advertising and cloud numbers encouraging. Google’s diverse advertising offerings seem to partially offset the uncertainties in the macro environment, while digital transformation to the cloud remains high on many companies’ priority list.

We have slightly lowered our short to medium term expectations given the current economic and geopolitical challenges, resulting in a fair value estimate of $169 for Alphabet, down from $180 previously. As the company takes steps to control costs through at least this year, with a strong cash-generating advertising business, progress towards profitability in its cloud segment and a strong balance sheet, we believe Alphabet is doing well. positioned to allocate more capital to complementary acquisitions and investments.

Alphabet generated total revenue of $69.7 billion in the quarter, up 12.6% year-over-year, including the 3.7% negative impact of firming of the US dollar. While the company says some advertisers have cut spending, Google’s ad revenue still rose 11.6% from a year ago, with search and YouTube ad revenue of $40.7 billion. (up 13.5%) and $7.3 billion (up 4.8%), respectively. Revenue from other business services was down 1% from a year ago. Google’s cloud revenue grew 35.6% year over year to $6.3 billion. The 36.2% operating margin in Google Services, combined with operating losses in other segments, resulted in a total operating margin of 27.9%, compared to 31.3% last year.

Stock price reaction

The shares are up nearly 4% in premarket trading, but are down about 27% year-to-date.

Investment case

Alphabet dominates the online search market with more than 80% global share for Google, thanks to which it generates strong revenue and cash flow growth. We expect continued growth in company cash flow as we remain confident that Google will maintain its leadership in search. We expect YouTube to contribute more to the company’s revenue and bottom line, and we find investing some of that money in moonshots to be attractive. Whether they will generate positive returns remains to be seen, but they do have a significant upside.

Google’s ecosystem is growing stronger as its products are adopted by more users, making its online advertising services more attractive to advertisers and publishers and leading to increased online advertising revenue, which we believe will continue to grow at double-digit rates post-pandemic and over the next five years.

The company uses technological innovation to improve the user experience in nearly all of its Google offerings, while making selling and buying ads efficient for publishers and advertisers. The adoption and use of mobile devices has increased. The online advertising market has taken notice and is following its target audience on the mobile platform. We’ve seen Google participate in it through the growing market share of its Android mobile operating system, helping it drive revenue growth and maintain its leadership in the space.

Among the company’s areas of investment, we particularly applaud efforts to establish a stronger foothold in the growing public cloud market. Google quickly leveraged the technological expertise it applied to building and maintaining its private cloud platform to increase its market share in this space, driving additional revenue growth and creating more operating leverage, which we believe will continue. Many of Alphabet’s most futuristic projects aren’t generating revenue yet, but the upside is nice if they succeed, as the company targets new markets. Alphabet’s self-driving car technology business, Waymo, is a case in point: based on various studies, it could tap into a market valued at tens of billions of dollars over the next 10 to 15 years.

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