If you're a young investor, it might seem like you've missed the boat on all the great market winners. Netflix (NFLX -0.63%), Amazon (NFLX -0.63%), and other technology stocks have gone up so much in the past, it can be hard to envision how any can put up solid returns for investors in the future.
One of these stocks is Alphabet (GOOG 9.96%) (GOOGL 10.22%), the holding company for Google, YouTube, and Google Cloud. Shares of the stock are up almost 800% in the past 10 years, and its market cap now sits at a whopping $1.75 trillion.
Is it too late to buy Alphabet stock? Let's take a look.
Image source: Getty Images.
Strong Q4 and 2021 earnings
On Feb. 1, Alphabet reported its earnings for the fourth quarter and calendar year 2021. Revenue grew 41% in 2021 to $257 billion, driven by the resurgence of digital advertising spending as the world slowly comes out of the COVID-19 pandemic. Profits followed suit, with operating income growing a staggering 91% in 2021 to $78.7 billion.
Why did operating income growth outpace revenue growth by so much? Because Alphabet is seeing a ton of operating leverage as it scales up its business. In 2021, operating margin across all its business was 31%, compared to 23% in 2020. And this is with the Google Cloud and Other Bets segments still burning over $2 billion combined each quarter. If/when these cash-burning segments turn to profitability, Alphabet's consolidated operating margin will continue to expand.
At a market cap of $1.75 trillion, Alphabet trades at a trailing price-to-operating income (P/OI) of 22.2, right around the market average. So investors don't need to worry about multiple compression when buying Alphabet stock. The only question remains: Where will future growth come from?
Tons of growth drivers remain
We've already mentioned the continued operating leverage Alphabet should get as it matures, but let's talk about each of its segments in more detail.
First, we have the core Google Services business, which includes search, Google Maps, YouTube, Android (the mobile operating system with 70% market share worldwide), and other smaller businesses like Google Drive. In Q4 alone, this segment did $63 billion in sales, driven mostly by Google Search. The growth of these operating units will come from the growth of digital advertising around the world. In 2021, global digital advertising spend was $455 billion. By 2024, that number is projected to hit around $650 billion. If these estimates come true, a lot of that growth will flow to Google Search, YouTube, Maps, and other Google properties.
Alphabet's second big business, and the only other one generating meaningful revenue right now, is Google Cloud. In Q4 2021, the segment did $5.5 billion in sales, giving it an annual run rate of $22 billion. Google Cloud is third in market share at 8%, behind Amazon Web Services and Microsoft Azure, but it can still ride the long-term growth of the cloud market for years to come. For example, some analysts expect overall cloud spending will grow at a 15% annual rate from now until 2030. If it keeps providing value to customers, Google Cloud should win some of this new spend.
Lastly, we have Other Bets, Alphabet's moon-shot division. This houses start-ups like Waymo (self-driving cars), Google Fiber, Google Ventures, Nest smart home devices, and many other projects. These operating units don't bring much revenue to Alphabet's overall business right now but provide tons of optionality for the business over the long haul.
Returning capital to shareholders
On top of solid growth and plenty of long-term tailwinds, Alphabet's finance department has started to return cash to shareholders in the form of share repurchases. In 2021, Alphabet repurchased $50 billion in stock, which is fueled by the $67 billion in free cash flow it generated in 2021 plus the $140 billion in cash sitting on its balance sheet.
Why are share repurchases helpful? Because they reduce a company's overall share count, increasing the percent ownership of every existing shareholder from the shares they still own. With such strong cash generation and a huge war chest, investors should expect Alphabet management to keep buying back stock over the next few years.
So is it too late to buy Alphabet?
Even though Alphabet has a market cap pushing $2 trillion, it is hard to see a world where the company is not much bigger five or 10 years from now. If overall revenue grows by 10%-plus a year, operating margins expand, and share repurchases continue, investors will likely do well owning Alphabet stock in the next few years and beyond.
