Tesla (TSLA +0.07%) and Google parent-company Alphabet (GOOG +0.31%) (GOOGL +0.25%) may not have a lot of similarities in terms of the products and services that they sell. As investments, however, they're becoming more and more similar.
Tesla and Alphabet are both high-margin businesses that generate a ton of free cash flow (FCF), which can be used to accelerate investments, keep debt off the balance sheet, repurchase stock, and make strategic acquisitions. It's a significant advantage, no matter the business cycle.
Unfortunately for both companies, their respective industries are cyclical and vulnerable to a recession. Demand for consumer-discretionary products -- like cars, as well as ad budgets -- decline during a weakening economy, and this could impact the growth of Tesla and Alphabet in the short term.
But over the long term, the investment thesis for each growth stock remains brighter than ever. Here's why.
Image source: Getty Images.
Aggressive expansion plans
Howard Smith (Tesla): Tesla and Alphabet are both growth stocks, but that doesn't mean they belong in the same portion of a portfolio. Balancing a decision to invest in one of these two stocks is a classic example of risk versus reward. For those able to tolerate more risk, there could be much more of a reward over the long run with an investment in Tesla.
The electric-vehicle (EV) maker is still early in its growth and expansion phases. One can see just how much faster Tesla is expanding by looking at the rate of revenue growth over the past five years.
TSLA Revenue (Quarterly) data by YCharts.
It's fair to point out that Alphabet is growing from a larger base. But Tesla brought in almost $60 billion in just the first nine months of 2022, so that rate of growth is impressive. An investment in Tesla is a bet that this growth rate can continue.
The company itself seems to believe that possibility. Tesla is in the midst of ramping up its latest two manufacturing plants and is already looking to expand further. It now seeks to invest almost another $800 million in its Texas plant, and there are reports that plans for a new manufacturing facility in Indonesia to produce up to 1 million vehicles annually are being finalized.
Those investments are being supported by Tesla's growing profits and cash flow. The company clearly sees growth in the market for EVs to continue and is planning to maintain its leadership position. Investing aggressively along with Tesla will be a smart move if the company is correct.
NASDAQ: TSLA
Key Data Points
Focus on valuation
Daniel Foelber (Alphabet): After Meta Platforms (META +0.98%), Alphabet has the lowest price-to-earnings ratio (P/E) and price-to-free-cash-flow ratio of the big tech stocks. A primary reason for that is probably because Alphabet makes the vast majority of its money from ads and could face slowing demand if the economy is thrown into a nasty recession.
GOOGL PE Ratio data by YCharts.
Zooming out and thinking about the big picture, Alphabet stands out as having one of the largest moats and highest-quality businesses on the planet. It dominates search, with an estimated 92% market share of global search volume. Unlike Meta, which is burning through cash and investing in the unproven metaverse, Alphabet's revenue streams are sticky and diverse.
|
Segment |
Revenue (Nine Months Ended Sept. 30, 2022) |
|---|---|
|
Google Search & Other |
$119.9 billion |
|
YouTube Ads |
$21.3 billion |
|
Google Network |
$24.3 billion |
|
Google Other |
$20.3 billion |
|
Google Cloud |
$19.0 billion |
|
Other Bets |
$0.8 billion |
|
Hedging Gains (Losses) |
$1.3 billion |
|
Total Revenue |
$206.8 billion |
Data source: Alphabet.
Over 75% of Alphabet's revenue comes from advertising but is spread out across Google Search, YouTube, and the Google Network. Google search is one of the most dominant monopolies on the planet, and YouTube's core business continues to grow at a torrid pace on top of the strides made through YouTube TV.
Google Cloud (11% market share), which is the third-largest Cloud IT infrastructure provider behind Amazon Web Services (34% market share) and Microsoft Azure (21% market share), has plenty of room to grow with the industry in the coming decades.
All told, Alphabet is a top-three industry leader in just about everything it does. Its massive free cash flow allows for moonshot bets in autonomous driving, quantum computing, and other industries without jeopardizing the core business.
With Alphabet, investors are getting an inexpensive stock with a diverse revenue stream and potential bonus upside from its other ventures. All told, Alphabet is easily one of the single greatest companies in the world. And now, the stock is finally at a bargain valuation, too.
For investors who have been waiting to buy Alphabet stock, now is the time.
NASDAQ: GOOGL
Key Data Points
Two good options worth considering now
There are compelling reasons why Tesla and Alphabet are excellent stocks. But despite the speed of Tesla's growth and the extent of Alphabet's moat, there's no denying that both stocks have surged in price over the last five years, even after accounting for their recent declines.
The good news is that higher stock prices have been backed by much stronger fundamentals. But for Tesla or Alphabet stock to recover, each company has to establish why it deserves to be worth a higher price -- and that means top- and bottom-line growth.
That's a tall order, given the economic outlook. Therefore, the best way to approach Tesla and Alphabet is to understand, first and foremost, what the long-term investment thesis for each company is, how that thesis would be impacted by a short-term slowdown (if at all), and then determine what you think a reasonable price for the company would be. If that price is lower than the current price of the stock, then opening a starter position or simply keeping either company on your watch list is a perfectly reasonable decision.
