In a recent appearance on Schwab Network's the Watch List with Nicole Petallides, Chris Wang provided expert insights and analysis on the negative market response to Google/Alphabet (ticker GOOG/GOOGL) 3Q earnings.
- Google lapping easier comps in Q3 and Q4; core ad revenues were solid
- Short form video is a key driver of engagement growth for YouTube; but brand advertising can be volatile
- Cloud revenue deceleration is the negative in the quarter but is only 11% of revenues
- Google’s AI investments dating back to the mid-2010s are now coming to reality
- regulatory risk – DOJ alleging broad range of anti-competitive actions by Google
Search revenue was better than expected and continued to show re-acceleration with the company calling out retail trends as a tailwind. Search growth accelerated 400bps constant currency and YouTube ad growth accelerated 600bps.
The company is facing the easiest comps for fiscal Q3 and Q4: last year earnings were down -24% and -32% respectively; and this year are expected to rise +46% (actual) in 3Q and +55% in 4Q; revenues grew double-digits at +11.8% for the first time since early 2022. On the negative side: Advertiser visibility into operating trends (and therefore ad budgets) remain in a state of low to no visibility.
Cloud revenues decelerated by 500bps but are only 11% of total revenues; cloud (Google +22% vs comp 200bps tougher comp) looked worse relative to Microsoft (but they had a much easier comp -500bps) – don’t think it speaks to a negative competitive dynamics. We believe the bigger issue is the miss on operating margin when many investors expected that Google has right sized their cost structure for the long-term; however, the company missed on operating margin – partially from increased investments (some one time legal and rent expenses); we were hoping to see margins expand with the core ad business accelerating so we will have to see if margins can expand in the upcoming quarters.
Regulatory risk: DOJ is alleging broad range of anti-competitive actions by Google. This has narrowed to Google making payments to be the default search engine across a number of 3rd parties – estimated to be $25-30 billion per year – estimated $17 billion to Apple. It is estimated that search from Apple devices is roughly 37 to 52% of total search revenues – market share loss could be 5-40% (very wide range of outcomes) – if Apple doesn't get payments, would they make Bing the default search? This is unlikely as it would be a worse user experience. The bigger risk is to Apple that receives these payments which drop straight to the bottom line. This would be a huge profit hit to Apple if the government forces a stop to these payments.
Are you bullish or bearish on Google?