Google's parent Alphabet (GOOGL 0.35%) (GOOG 0.37%) made its stock more affordable to retail investors when the company performed a 20-for-1 stock split on July 15. But the share price has suffered since then, hitting a 52-week low of $96.87 for its class A shares on Sept. 27, a far cry from the high of $151.55 reached in February.
Macroeconomic factors are to blame. Tech stocks in general have been hit hard in 2022 due to persistent inflation and rising interest rates. Even Alphabet CEO Sundar Pichai talked about "an uncertain global economic outlook" during the company's July 26 second-quarter earnings call.
On top of that, the advertising industry experienced a year-over-year ad spending decline in recent months. Over 80% of Alphabet's revenue stems from advertising, so the ad industry's softness combined with the other macroeconomic factors drove Alphabet's stock price drop.
The unfavorable macroeconomic environment is painful for advertising-dependent companies, but Alphabet is a buy. Here's why.
Alphabet's market strength
For years, Alphabet's offerings in the marketplace made it a magnet for digital advertising dollars. The ubiquitous presence of Google products, such as its top-ranked Chrome web browser, Android mobile operating system, and of course, its search engine, are why advertisers will continue to spend advertising dollars with Alphabet for years to come.
While the rise of competitors, such as Amazon and TikTok's advertising businesses, bite into Alphabet's market share, the company is still forecasted to remain the top dog in the U.S. through at least 2023. Alphabet is further helped by U.S. digital ad spending growth, which is expected to expand from $239.9 billion this year to $315.3 billion by 2025.
Alphabet's market strength showed in its second-quarter results. Facebook parent Meta Platforms, second only to Google in capturing U.S. digital advertising spending, saw a year-over-year drop in Q2 revenue, but Alphabet experienced a 13% year-over-year increase.
So far this year, Alphabet's revenue is outpacing last year. For the first half of 2022, the company generated $137.7 billion in revenue compared to $117.2 billion in 2021. This continues a multi-year trend of annual revenue growth.
Data by YCharts.
Alphabet's product potency
Another factor fueling Alphabet's success is the strength of its advertising products. Advertisers running ads on Google can generate an excellent return on their investment, about $2 in revenue for every $1 spent.
That's because, on Google's search engine, advertisers are charged only if consumers click on the ads appearing in search results. The consumer's click shows they're interested, so there's a higher likelihood they'll buy.
In addition, starting this October, Google is requiring ads to lead to webpages adhering to standards set by the Coalition for Better Ads. These standards require websites to discontinue ads that cover content, and other improvements intended to reduce annoying advertising. Google will ban ads that don't comply with these standards. Improving the consumer experience increases the likelihood of clicks on Google's ads.
Alphabet is also finding success in its Google Cloud offering, which provides cloud computing products. The IT industry's shift to cloud computing creates an opportunity for Alphabet to diversify its revenue beyond advertising, and Google Cloud is growing rapidly.
| Time Period | Google Cloud Revenue | YOY Growth |
|---|---|---|
| First half of 2022 | $12.1 billion | 39% |
| 2021 | $19.2 billion | 47% |
| 2020 | $13.1 billion | 46% |
| 2019 | $8.9 billion | 53% |
| 2018 | $5.8 billion | 44% |
Data source: Alphabet. YOY = year-over-year.
Google Cloud's contribution to total revenue is small but steadily increasing. Its portion of total revenue has risen from 5% in 2017 to 9% this year. And Google Cloud is already the world's third-largest cloud computing company. The cloud computing industry is forecasted to grow from $706.6 billion last year to $1.3 trillion by 2025, so Google Cloud's revenue will continue to expand.
Alphabet's excellent financials
The company's advertising and cloud success enable Alphabet to maintain strong financials. It exited Q2 with total assets of $355.2 billion compared to total liabilities of $99.8 billion. Alphabet generated $12.6 billion in free cash flow as well.
Alphabet's strong balance sheet and free cash flow allow it to perform stock buybacks while continuing to invest in its business. The company's share repurchase program has accelerated as Alphabet's stock price slumped. Through the first half of 2022, Alphabet repurchased over 230 million shares of its stock, compared to 20.3 million shares in total last year.
If you were among the retail investors who snapped up Alphabet shares post-stock split, you may have been disillusioned by its declining stock price since then. But take a cue from Alphabet's share repurchase program, and use this opportunity to pick up more shares.
Although macroeconomic headwinds may hurt Alphabet stock in the short term, these will pass in time. The company's strong financials and popular products, combined with the expanding digital advertising and cloud computing sectors, will fuel revenue growth, making Alphabet a good investment over the long run.
