Alphabet Stock: Bear vs. Bull

Alphabet's (NASDAQ: GOOG) (NASDAQ: GOOGL) stock price jumped 6% during after-hours trading on July 25 after it posted its second-quarter report. The tech giant's revenue rose 7% year over year to $74.6 billion, which beat analysts' consensus estimates by $1.8 billion. Its EPS grew 19% to $1.44 and cleared the consensus forecast by a dime.

Does that earnings beat indicate it's finally the right time to buy Alphabet's stock, which remains 14% below its all-time high from November 2021? Let's review the key numbers -- and if they support the bullish or bearish thesis -- to decide.

Image source: Getty Images.

Reviewing the key numbers

Alphabet generated 78% of its revenue from Google's advertising business (including its search, network, and YouTube ads) in the second quarter. Another 11% came from Google's other non-advertising businesses (including subscription-based services, Google Play sales, and hardware), while the remaining 11% came from Google Cloud. Here's how those three core businesses fared over the past year.

Data source: Alphabet. YOY = Year over year.

What the bulls will tell you

The bulls will point out that Alphabet's revenue growth accelerated for the second consecutive quarter, driven by the recovery of its advertising business, its rising number of YouTube Music and Premium Subscribers (which exceeded 80 million at the end of 2022), robust sales of its new Pixel devices, and the expansion of Google Cloud -- which faced a milder slowdown than its larger rivals, Amazon (NASDAQ: AMZN) Web Services (AWS) and Microsoft (NASDAQ: MSFT) Azure, over the past year.

Google Cloud's operating margin also stayed positive for the second consecutive quarter and temporarily allayed concerns that a pricing war with AWS and Azure could lead to steeper losses. The cloud segment's rising margins -- along with the broader recovery of its advertising business, thousands of layoffs, and other cost-cutting measures -- boosted Alphabet's operating margin one percentage point year over year to 29%.

As Alphabet streamlines its spending, it's beefing up its large language models like PaLM 2 and Gemini to upgrade its core search engine. It's also been developing new artificial intelligence (AI) tools to refine its targeted ad placements, and it's rolling out its AI-powered chatbot Bard to challenge OpenAI's ChatGPT globally in over 40 languages. All of those efforts could widen its moat against Microsoft, which has invested billions of dollars in OpenAI to upgrade its ecosystem with AI services.

Analysts expect Alphabet's revenue and EPS to rise 6% and 16%, respectively, for the full year. For 2024, they expect its revenue and EPS to grow 11% and 18%, respectively -- which suggests its growth will continue to accelerate as the macro environment improves. At 23 times forward earnings, Alphabet still looks reasonably valued relative to those estimates.

What the bears will tell you about Alphabet

The bears believe Alphabet will struggle to catch up to OpenAI in the generative AI race as Microsoft integrates its services into Azure, Bing, Office, and its other cloud services. If Google falls behind that crucial curve, its core search engine could become less relevant to advertisers -- which will need to find fresh ways to promote their products to AI chatbots.

Google has also been paying Apple and Samsung billions of dollars each year to remain the default search engine for their market-leading mobile devices. Recent rumors that suggest Microsoft has been trying to outbid Google to secure those coveted spots for Bing are worrisome since they reveal just how quickly Google could lose a massive slice of its search traffic and advertising revenue to Microsoft.

The bears will also note that YouTube's ad revenue only rose 4% year over year in the second quarter. That's an acceleration from the segment's 3% decline in the first quarter and its 1% growth in 2022, but it could still face tough competition from short video platforms like ByteDance's TikTok and ad-supported streaming video platforms like Netflix.

As for Google's cloud business, it only controlled 9% of the global cloud infrastructure market in the first quarter of 2023, according to Canalys, putting it in a distant third place behind AWS (32%) and Azure (23%). So while Google Cloud is still growing with expanding operating margins, it could run out of steam long before it catches up to Amazon and Microsoft.

Lastly, Google still faces a lot of unpredictable regulatory headwinds, including calls to split up its market-leading adtech business in the U.S. and Europe. Those potential fines and restrictions could erode its defenses against rapidly growing independent ad tech companies like The Trade Desk as well as smaller digital advertising platforms.

The bullish case makes more sense

Alphabet has some notable flaws, but I believe its strengths easily outweigh its weaknesses. Its growth is accelerating again, its operating margins are improving, and its stock is reasonably valued. It might face unpredictable competitive and regulatory headwinds, but its growth rates could improve significantly once the macro environment improves.

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Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Leo Sun has positions in Alphabet, Amazon.com, and Apple. The Motley Fool has positions in and recommends Alphabet, Amazon.com, Apple, Microsoft, Netflix, and The Trade Desk. The Motley Fool has a disclosure policy.