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Did Alphabet Sustain The Same Crushing Momentum It Had In Q3?

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JJ Kinahan
·6 min read
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When you create a product that’s efficient, effective, and well-branded it can become peoples’ top choice, and that favorability could pose a significant barrier to entry. The downside: You might be accused of having a monopoly on your hands and face a basket of antitrust lawsuits.

That pretty much sums up Google’s parent company, Alphabet Inc (NASDAQ: GOOGL).

After facing pandemic headwinds in Q2 of 2020 resulting in the company’s first-ever year-over-year quarterly revenue decline, GOOGL got back on its feet in Q3, crushing analyst expectations in just about every business segment. The road through Q4 looked promising, but then the search behemoth found itself broadsided with antitrust lawsuits from the Justice Department and 38 other states and territories.

GOOGL’s “monopoly” problem may arguably dampen investor sentiment. But let’s face it: the trial isn’t taking place until September 2023, and investor attention spans tend to fall on the short-term side of things. That means the focus might be more on GOOGL’s previous quarter and the ones ahead this year. Could all this be nothing more or less exciting than business as usual? We’ll find out when GOOGL reports Q4 earnings after the bell on Feb. 2.

google stock price chart
google stock price chart

FIGURE 1: SECTOR TRACKING. Shares of Alphabet (GOOGL—candlestick) have pretty much been moving in sync with the Communication Services sector ($IXC—purple line). It’ll be interesting to see how well the two correlate after GOOGL announces its Q4 earnings. Data source: Nasdaq, S&P Dow Jones Indices. Chart source: The thinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results.

It’s Open Season For Online Ad Space

The exciting news leading into the last quarter of 2020 was that search and YouTube ad revenues had bounced back in a big way during Q3. The drop in ad spending—nearly 80% of the company’s entire revenue—hit GOOGL like a ton of bricks in Q2 amid the lockdown.

Even though people at home relied heavily on online search and streaming entertainment via YouTube—making “online” the ideal stage for attention and engagement—many businesses were temporarily shuttered; most looking to cut expenses amid economic uncertainty. When you consider those challenges, the drop in ad spend was understandable.

But if economic gloom prevented businesses from spending or doubling-down on their ad efforts, GOOGL’s Q3 ad revenue of $37.1 billion—jumping 10% year over year from Q2’s negative 8%—might have indicated early on that the space was, once again, about to be re-engaged.

GOOGL may be the dominant player in search-based advertising and it may also hold a huge chunk of market share through its streaming YouTube platform. But the global share of online advertising, estimated at $389 billion in 2021 alone according to Statista, still presents a wide field of opportunity. In short, there’s lots of room for growth. And the time seems ripe to take the field, as vaccine rollouts and continued stimulus support encourage businesses to try to get back to business as usual.

Did GOOGL take the opportunity to make a quick move on the renewed advertising season? That’s something investors will have to listen for when GOOGL opens its books.

Plenty Of Room For Clouds In the Virtual Sky

GOOGL is a huge company with a real penchant for disruption and innovation. But in the cloud space, it’s a small catcher-upper, trailing well behind leaders Amazon.com, Inc. (NASDAQ: AMZN) and Microsoft Corporation (NASDAQ: MSFT). To date, GOOGL’s cloud makes up only a little over 7% of its total revenue.

But what matters most in GOOGL’s catch-up game isn’t the size of its cloud share but its growth rate. In Q3, its cloud revenue may have been up only $3.4 billion, small compared to AMZN’s $11.6 billion or MSFT’s $13 billion revenue for cloud. But if you take a look at the growth rate, GOOGL’s Q3 cloud revenue grew 45% year over year, as compared with AMZN’s 29% and MSFT’s 20%.

GOOGL’s pursuit reminds us of a slogan (and book title) that captures the spirit of innovation in early tech, not unlike GOOGL in its early years: “It’s not the big that eat the small ... it’s the fast that eat the slow.” Keep this in mind when GOOGL reports cloud revenues in the coming quarter, as Google Cloud, a segment CEO Sundar Pichai is aggressively driving, will be reported as its own stand-alone segment.

Alphabet Earnings And Options Activity

GOOGL is expected to report an adjusted EPS of $15.93, up from $15.35 in the prior-year quarter, according to third-party consensus analyst estimates. Revenue is projected at $53.1 billion, up 15.2% from a year ago.

The options market has priced in an expected share price move of 4.3% in either direction around the earnings release.

Looking at the Feb. 5 options expiration, call activity has been spread out, but with a concentration at the 1900 strike. Put activity has also been spread out with the most active at the 1700 strike. The implied volatility sits at the 32nd percentile as of Friday morning.

Note: Call options represent the right, but not the obligation, to buy the underlying security at a predetermined price over a set period of time. Put options represent the right, but not the obligation, to sell the underlying security at a predetermined price over a set period of time.

In “Other” News ...

GOOGL’s “Other Bets,” its smaller projects and subsidiaries including Waymo, its driverless vehicle tech, and Verily Life Sciences brought in $178 million in Q3 revenue, nearly 15% more than a year earlier. However, it also generated a Q3 operating loss of $1.1 billion—up 17% from the same quarter the prior year.

GOOGL also finalized its acquisition of electronic consumer and fitness company Fitbit a few weeks ago. Results of that acquisition will likely be reported in the quarter to come.

Looking Ahead

In Q3, GOOGL crushed analyst expectations, with earnings per share of $16.40 topping analyst estimates of $11.29, and revenue of $46.17 billion versus estimates of $42.90 billion according to research firm Refinitiv.

Though analysts largely expect to see a year over year decline in Communications Services net profit margins, according to FactSet, analysts expect GOOGL to outperform its sector peers. Research firm CFRA noted the company’s dominance in search and streaming (YouTube) ad revenues as primary drivers.

Though GOOGL CFO Ruth Porat withheld guidance for Q4, she emphasized the company’s continued investment in segments offering “long-term sustainable financial value” particularly cloud growth.

Will GOOGL offer any guidance this time out? It’s possible, but other Tech companies, including Apple Inc (NASDAQ: AAPL), decided not to, citing uncertainty around the pandemic.

TD Ameritrade® commentary for educational purposes only. Member SIPC. Options involve risks and are not suitable for all investors. Please read Characteristics and Risks of Standardized Options.

Photo by Christian Wiediger on Unsplash

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