Corporate earnings in the US were in focus this week as investors digested quarterly results from mega-cap technology stocks.
One of the mega-cap names that disappointed investors in its latest earnings results was Google’s parent company, Alphabet Inc (NASDAQ: GOOG).
Alphabet reported first-quarter revenue that fell short of analysts’ expectations. It is a rare miss for the technology giant.
Alphabet’s first quarter of 2022 (Q1 FY2022) earnings report resulted in a decline of 3.7% in its share price as it closed at US$2,285.89 on Wednesday (27 April).
Alphabet reported revenue of US$56 billion (excluding payouts to distribution partners) during the quarter, representing an increase of 20% year-on-year but falling short of analysts’ expectations of US$56.1 billion.
Meanwhile, net income came in at US$16.4 billion, or US$24.62 in earnings per share (EPS), as compared to US$17.9 billion (or US$26.29 in EPS) in the same period a year ago.
Despite the headline numbers, I think that long-term investors should look beyond near-term challenges to buy Alphabet now.
Looking at its financial numbers and company updates, here are three reasons why I think long-term investors will find value in the search engine giant.
1. Dominant search position and growing YouTube platform
Google Search remains the gold standard in internet search and this is reflected in Alphabet’s earnings.
Advertising revenue continues to benefit from its dominant search position and Alphabet’s ad revenue jumped by 22.3% to US$54.7 billion in Q1 FY2022.
The reopening of the economy has led to surge in travel searches and Q1 FY2022 travel searches were above the pre-pandemic levels of Q1 FY2019.
New product updates such as multi-search, which was launched in Q2 FY2021, AR Beauty in Google Search and Performance Max that deliver goal-based advertising using Google AI, such as Smart Bidding, are just some of the latest innovations that were introduced to maintain its dominant position.
While the reliance on advertising is one of the weaknesses that I dislike about Alphabet, its latest earnings saw an improvement in its YouTube platform.
Despite the impact from the slowing spending in Europe following Russia’s invasion of Ukraine, the higher YouTube’s Shorts viewership is encouraging.
Competition from TikTok in this space remains but YouTube Shorts averages over 30 billion daily views now, which is four times what it was a year ago.
Other revenue for Alphabet was US$6.8 billion in Q1 FY2022, an increase of 5%. The growth rate reflects the substantial growth in YouTube non-advertising revenues driven by subscriber growth in YouTube Music and Premium and YouTube TV.
2. Google Play pricing model will attract developers
Another interesting development is the changes made to Google Play’s pricing model to help all developers on its platform succeed.
According to Alphabet’s CEO, Sundar Pichai, 99% of the developers qualify for a service fee of 15% or less. This was a commission fee reduction from 30%.
While there will be a near-term impact on its revenue from Google Play, I believe this sets the tone to attract developers into its ecosystem, which is beneficial over the long-term.
3. Upside potential with Cloud and its other bets
While Alphabet was slow to enter the Cloud business, Q1 FY2022 offers some optimism.
Revenue for the quarter grew 44% year-over-year with continued strong performance across Google Cloud Platform and Workspace.
The company focuses on cybersecurity where Alphabet introduced new solutions including Assured Workplaces to address digital sovereignty in the European Union as well as its Virtual Machine Threat Detection, a first-to-market agentless malware detection capability.
I am also excited about Alphabet’s acquisition of Mandiant for US$5.4 billion, which will put further emphasis on its cybersecurity business.
Another key strength of Alphabet’s Google Cloud Platform is its open secure infrastructure that enable customers to run their workloads and apps where they need them.
While Alphabet is lagging the two leaders in the Cloud business, the strong growth momentum seen in Q1 FY2022 is promising.
It is also worth noting that Alphabet’s investment into research & development (R&D) surpassed other Big Tech companies. In 2020 and 2021 alone, Alphabet invested US$40 billion into R&D in the US.
In April, Waymo, the self-driving car subsidiary of Alphabet, became the first company to run fully autonomous ride-hailing operations in multiple locations simultaneously.
Other innovations include its ambitious goals to operate on 24/7 carbon-free energy by 2030.
Alphabet’s growth story is worth the investment
It is hard to argue that Alphabet’s continued reliance on advertising dollars is its biggest risk, but Alphabet delivered substantial free cash flow of US$15.3 billion in the quarter and US$69 billion for the last 12 months.
On top of that, it has an operating margin of 30%. I think that this gives Alphabet comfortable room to grow its other businesses.
It is also in a good position to withstand the current concerns in the market, which include rising interest rates, inflation and higher input costs.
The near-term impact on its earnings and the rotation into value stocks from growth stocks are likely to weigh on its share price.
Long-term investors, however, will benefit from its push into the subscription business model, collaboration with developers, upside potential in its Cloud business as well as its efforts in futuristic technologies, such as autonomous cars.
Disclaimer: ProsperUs Investment Coach Billy Toh doesn’t own shares of any companies mentioned.
