Alphabet’s Earnings Report: Will AI Investments Pay Off? Breakup Speculation Looms
Tech giant Alphabet Inc (GOOG, GOOGL) is gearing up to unveil its third-quarter financial results on Tuesday, October 29th, after market close. This report will be closely scrutinized by investors and analysts as it could offer a glimpse into the future growth trajectory of the tech sector and provide insights into the effectiveness of Alphabet’s AI investments.
Earnings Estimates
Analysts expect Alphabet to report a revenue of $86.34 billion for the third quarter, representing a substantial increase from $76.69 billion generated in the same period last year. It’s worth noting that Alphabet has consistently surpassed analyst revenue estimates for seven consecutive quarters.
On the earnings front, analysts are predicting an EPS (earnings per share) of $1.85 for the third quarter, a climb from the $1.55 reported in the same period last year. Similar to revenue, Alphabet has exceeded earnings estimates for six straight quarters.
Breakup Speculation and Regulatory Scrutiny
One of the major talking points leading up to Alphabet’s earnings report is the possibility of a company breakup or restructuring. The U.S. Department of Justice (DOJ) is currently examining potential measures to address Google’s dominance in the search market, raising concerns about a potential antitrust lawsuit.
While a breakup could generate negative headlines concerning Alphabet’s perceived search monopoly, some analysts believe that investors might ultimately benefit from such a scenario. Sum-of-the-parts valuations suggest that the individual components of Alphabet might be worth more if separated.
Jefferies analyst Brent Thill expressed his view, stating, “We don’t believe a full breakup would happen. Even if it did, it would be good for shareholders because the sum of the parts is greater than the whole.” Thill explained that companies like Alphabet, Meta Platforms, and Amazon have diverse business units, some of which are not adequately valued based on historical multiples, and a breakup could unlock greater shareholder value. He also drew a parallel with the past antitrust probe into Microsoft, which lasted nearly a decade and saw the stock trade sideways. Thill encouraged investors to capitalize on the current market volatility.
Needham analyst Laura Martin has been vocal about the potential benefits of a forced breakup for Alphabet, arguing that it could lead to a significantly higher valuation. “We believe that GOOGL is worth more in pieces than together, so we welcome regulators’ attempts to break up GOOGL,” Martin stated in an investor note. She also predicted that the European Union might compel Alphabet to spin off its third-party network ad business.
YouTube Valuation and the Focus on Pure-Play Assets
A potential breakup could bring the valuation of YouTube, Alphabet’s video platform, into sharper focus. Martin estimates that if traded separately, YouTube could be valued between $455 billion and $643 billion.
Martin believes that Alphabet shares could experience an upward trend if the company undergoes a breakup, as investors would be willing to pay a premium for “pure-play assets.” She also noted that more data points could be publicly shared, and employees would receive shares in the business lines they directly contribute to. Martin has a Buy rating on Alphabet with a price target of $210.
Strong Advertising Growth Amidst Competition
Wedbush analyst Scott Devitt recently reiterated an Outperform rating and $205 price target on Alphabet stock. Devitt highlighted Alphabet’s robust advertising growth, even in the face of heightened competition in the advertising space. He described Alphabet as an “above average company” trading at a “below average multiple.”
Devitt acknowledged that sentiment towards Alphabet is mixed compared to other mega-cap internet companies, with investors balancing potential regulatory headwinds against the emergence of generative AI as a potential threat to the search business. However, he noted that Alphabet’s generative AI initiatives within search have demonstrated high user engagement, suggesting potential for new monetization opportunities in the future.
Devitt believes that the upcoming earnings report is unlikely to be a catalyst for significant price movement in Alphabet stock. Nevertheless, he maintains that shares are attractively priced at their current levels, trading below the market multiple.
Key Items to Watch
As one of the largest companies reporting during the week, Alphabet’s earnings report could significantly impact the tech and advertising sectors. Investors and analysts will be paying close attention to the company’s commentary on its search segment. In the second quarter, Google Search generated revenue of $48.51 billion, while YouTube advertising revenue reached $8.66 billion.
The performance of Alphabet’s YouTube segment will also be closely monitored as the video segment faces increasing competition from companies across video, gaming, and streaming, all vying for a slice of consumers’ time. While Alphabet is unlikely to address the 2024 presidential election directly, the upcoming election could remain an important backdrop, particularly with Donald Trump’s running mate, J.D. Vance, previously advocating for a breakup of Alphabet.
Investors and analysts will also be looking for Alphabet to provide updates on its ongoing growth and investments in artificial intelligence. Alphabet CEO Sundar Pichai emphasized the company’s commitment to innovation across all layers of the AI stack. “We are innovating at every layer of the AI stack. Our longstanding infrastructure leadership and in-house research teams position us well as technology evolves and as we pursue the many opportunities ahead,” Pichai stated after the second-quarter results.
GOOG Price Action
Alphabet stock closed at $168.27 on Monday, within a 52-week trading range of $123.88 to $193.30. The stock has experienced a 21% year-to-date increase in 2024.
