Google's parent company Alphabet GOOGL is set to release its second-quarter earnings report on July 23. Here’s Morningstar’s take on what to look for in Alphabet’s earnings and the outlook for its stock.

Key Morningstar metrics for alphabet

  • Fair Value Estimate: $171.00
  • Morningstar Rating: 3 stars
  • Morningstar Economic Moat Rating: Wide
  • Morningstar Uncertainty Rating: High

Alphabet earnings release date

  • Tuesday, July 23, after the close of trading in the US

What to watch for in Alphabet’s Q1 earnings

  • Artificial intelligence developments: How is Alphabet positioning its AI tools to maintain search market share and keep its advertising business growing? Are AI use cases continuing to drive growth within Google Cloud?
  • Capital spending plan updates: There is growing concern that investments in data centers and computing power at Alphabet, Meta Platforms META, Amazon AMZN, and Microsoft MSFT will fail to deliver decent financial returns. Beyond that, we suspect people are interested in how Alphabet’s plans could affect Nvidia NVDA.
  • The status of the advertising market: Is demand for digital advertising at least holding steady? Cost per click in the search business was up 8% in the first quarter after being stagnant or down for 18 months. There is fear that demand from Asian retailers (like Temu) for US ads will wane and pull pricing lower.
  • Search volume: If search click volumes are weak, that would feed the narrative that new AI tools from OpenAI/Microsoft and others are chipping away at Google’s dominance.
  • Other issues: What’s the thinking behind the rumored Wiz acquisition? Are there any developments on an Apple partnership to include Google AI tools in the next iPhone? Are there updates on any of the lawsuits Alphabet is facing?

Fair Value Estimate for Alphabet

Our fair value estimate is $171 per share, equivalent to a 2024 enterprise value/EBITDA ratio of 15. We expect slight margin pressure in 2024 given the firm’s continued investments in growth initiatives, mainly in AI, which require higher research and development. We look for margin improvement in 2025-28, driven by better generative AI search monetization and faster growth in cloud, thanks to wider adoption of generative AI. Our model assumes a five-year compound annual growth rate of over 10% for total revenue and a five-year average operating margin of nearly 29%.

We expect advertising revenue to remain over 70% of Alphabet’s total revenue, driven by continuing growth in digital ad spending, albeit at a much slower rate than historically. We model 6.5% ad revenue growth for 2024 due to slower expected economic growth than in 2023. We have estimated total Google ad revenue of $253 billion in 2024 and $272 billion in 2025. We think YouTube will contribute 13.6% of Google’s advertising revenue in 2024, up slightly from 2023, and more than 14% in 2025. YouTube growth should benefit from its impressive reach and usage frequency, plus its video-only content format, which is attractive to brand advertisers.

Economic Moat Rating

We assign Alphabet a wide moat, thanks to durable competitive advantages derived from the company’s intangible assets, as well as its network effect.

We believe Alphabet holds significant intangible assets related to overall technological expertise in search algorithms and AI (machine learning and deep learning), as well as access to and accumulation of valuable data for advertisers. We also believe Google’s brand is a significant asset. “Google it” has become synonymous with searching, and regardless of actual technological competency, the firm’s search engine is perceived as being the most advanced in the industry. While Microsoft’s MSFT Bing is attempting to dethrone Google with AI technology from OpenAI, we think the firm can defend its dominance in search with its own AI technology, some of which OpenAI’s products are based on.

Financial strength

Alphabet has a strong balance sheet, with cash and cash equivalents of $111 billion versus total debt of only $13 billion as of the end of 2023. The company also has a $4 billion revolver with no outstanding balance. Over 60% of the company’s cash and cash equivalents are held outside the United States.

Risk and uncertainty

Our Uncertainty Rating for Alphabet is High. While we remain confident that Google will maintain its dominant position in the search market, a long-lasting downturn in online ad spending could harm the firm’s revenue and cash flow. On the other hand, positive returns on Alphabet’s investments in cloud and moonshots could considerably increase our fair value estimate.

Google faces antitrust pressure and various claims and investigations from different regulatory agencies regarding search bias and its overall market dominance in online advertising. Some governments may forbid access to some of Google’s properties, which could result in lower user growth and monetization. Similarly to Meta, Google faces limitations on mergers and acquisitions as the US and other countries attempt to lessen the firm’s dominance in advertising and the internet market.

GOOG bulls say

  • As the number of online users and usage increase, so will digital ad spending, of which Google will remain one of the main beneficiaries.
  • Android’s dominant global market share of smartphones leaves Google well-positioned to continue dominating mobile search.
  • The significant cash generated by the Google search business allows Alphabet to focus on innovation and long-term growth opportunities in new areas.

GOOG bears say

  • There is little revenue diversification within Alphabet, as it remains heavily dependent on Google and search advertising.
  • Alphabet is allocating too much capital toward high-risk bets, which face a very low probability of generating returns.
  • Google’s dominant position in online search is not durable, as more companies and regulatory agencies are contesting the methods through which the company has been extending its leadership.

Terms used in this article

Star Rating: Our one- to five-star ratings are guideposts to a broad audience and individuals must consider their own specific investment goals, risk tolerance, and several other factors. A five-star rating means our analysts think the current market price likely represents an excessively pessimistic outlook and that beyond fair risk-adjusted returns are likely over a long timeframe. A one-star rating means our analysts think the market is pricing in an excessively optimistic outlook, limiting upside potential and leaving the investor exposed to capital loss.

Fair Value: Morningstar’s Fair Value estimate results from a detailed projection of a company's future cash flows, resulting from our analysts' independent primary research. Price To Fair Value measures the current market price against estimated Fair Value. If a company’s stock trades at $100 and our analysts believe it is worth $200, the price to fair value ratio would be 0.5. A Price to Fair Value over 1 suggests the share is overvalued.

Moat Rating: An economic moat is a structural feature that allows a firm to sustain excess profits over a long period. Companies with a narrow moat are those we believe are more likely than not to sustain excess returns for at least a decade. For wide-moat companies, we have high confidence that excess returns will persist for 10 years and are likely to persist at least 20 years. To learn about finding different sources of moat, read this article by Mark LaMonica.

Uncertainty Rating: Morningstar’s Uncertainty Rating is designed to capture the range of potential outcomes for a company. An investor can think of this as the underlying risk of the business. For higher risk businesses with wider ranges of potential outcomes an investor should consider a larger margin of safety or difference between the estimate of what a share is worth and how much an investor pays. This rating is used to assign the margin of safety required before investing, which in turn explicitly drives our stock star rating system. The Uncertainty Rating is aimed at identifying the confidence we should have in assigning a fair value estimate for a stock. Read more about business risk and margin of safety here.

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