Thursday, October 25, 2018

Alphabet's earnings amid a stock selloff

  • Stocks
  • US earnings' season

Alphabet (NASDAQ:GOOGL) is slated to report its third quarter results after the market close on Thursday, October 25. Google's parent company is going into this report on a solid note. During the second quarter, revenue increased 26% year over year and earnings per share adjusted for one-time factors jumped 32% to $11.75, beating the $9.59 target Wall Street was looking for.

However, fined by the European Commission for allegedly engaging in anti-competitive practices related to its mobile search engine, the EPS scored a decline of 9.4% on a GAAP basis. Alphabet Class A shares gained 10.3% over the one-year period through October 19 when the S&P returned 10.1% in the same period.

To provide some perspective, last quarter Alphabet's revenue breaks down as follows:

  • Google properties: 26% increase to $23.3 billion.
  • Google network members' properties: 14% increase to $4.8 billion.
  • Google "other revenue": 37% rise to $4.4 billion.
  • Other Bets (formerly "Moonshots"): 49% rise to $145 million.

We can clearly see that the first two categories which still represent the bulk of the business are getting less important and slower where other revenues (comprised mainly of Google Cloud, hardware, and the Google Play store) are outperforming everything else. This is the area where the investors should be looking at on Thursday and compare it with the second quarter where this category jumped 37%, making it the fastest-growing Google line item.

On the call, Alphabet CEO Sundar Pichai called out Google Cloud's momentum, noting big customer wins in the quarter included Domino's Pizza, SoundCloud, and PricewaterhouseCoopers. While "other revenue" accounted for just about 13% of the company's total revenue, it should become more important over time. CFO Ruth Porat said on the first-quarter earnings call that the company predicts "extraordinary upside" in its newer markets, most notably cloud and hardware.

An ongoing issue for Alphabet is the threat to its ad business posed by Inc. The e-commerce giant is well positioned to place ads before shoppers and as a result the company is growing into an ad giant. It is not just Amazon that is coming for Alphabet’s ad money, as Apple Inc. too is growing its ad business at a steady clip. Bernstein analyst Toni Sacconaghi wrote in a note to clients Monday that Apple will grow its App Store’s search ads into a $2 billion business by 2020, and is now selling about $500 million worth of ads.

Streaming might provide another lucrative chance for Apple to sell ads, since the Apple TV platform is believed to have many more users than streaming software maker Roku Inc. and sells ads for a higher rate. It is also possible the company could begin to develop advertising products around Apple Maps and Apple News. However, Nomura analyst Mark Kelley wrote in a note to clients Monday that he is watching for updates on Google Cloud Platform, its hardware device sales and Waymo. Kelley has a price target of $1,400 and a buy rating on the stock.