Alphabet Inc. Still Going Strong Despite Recent Stock Price Weakness

Alphabet Inc. (NASDAQ:GOOGL) CFO sees hardware as a big source of new revenue, and its Cloud contract growth has been surging

SmallCapPower | July 25, 2017: Alphabet Inc. (NASDAQ: GOOGL) after Monday’s close reported Q2 revenues of US$26.01 billion (up 21% YoY) and net income of US$3.52 billion (down 27% YoY). The Company’s revenue growth was powered mainly by YouTube ads and mobile search ads.

Alphabet share price, though, fell more than 3% in early Tuesday trading as the Company reported weaker-than-expected performance on two key metrics: cost per click and traffic acquisition costs (TAC).The drop in cost per click was much higher, mainly due to more search traffic coming from mobile devices. TAC totaled US$5.09 billion (up 28% YoY) due to mobile ad revenue-sharing payments made to Apple, Android OEMs and other carriers.

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Alphabet CFO Ruth Porat said on a conference call that the shift to mobile search traffic and automated purchases made by ad clients, both carry higher costs. Alphabet also expects marketing costs to be higher in the second half of this year than in the first due to spending on its Cloud business and to promote its hardware products.

Antitrust risk has shadowed Google for years, and antitrust enforcers in the European Union last month fined Google US$2.7 billion for favoring its own shopping service. Excluding the one-time fine of US$2.7 billion, the net income comes out to US$6.26 billion (up 28.4% YoY). Beyond the fine, Alphabet faces a penalty of up to 5% of its average daily turnover if it doesn’t give equal treatment to rival comparison shopping services in Europe by late September. Going forward this issue can affect the Company’s revenue negatively, as it derives ~33% of its revenue from EMEA region.

That being said, the CFO of Alphabet mentioned hardware efforts as a major source of new revenue growth. As well, Alphabet won three times as many Cloud contracts valued over $500,000 in the second quarter of 2017, than during the same period last year. Its Cloud division has also accounted for a large number of its 1,614 recently-hired employees in the June quarter alone.

Alphabet continues to dominate the digital advertising market, and new programming initiatives in its YouTube division should ensure this growth remains strong. In terms of valuation, Alphabet stock currently trades at price to TTM sales of 7.22x, price to book value of 4.68x and forward PE of 24.44x.

Disclosure: Neither the author nor any of the principals at Small Cap Power, or their family members, own shares in any of the companies mentioned above.

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