The largest technology companies in America have just reported their financial results for the fourth quarter and full year 2022. Some notable themes emerged in those reports, with digital advertising revenue slowing across the board and sales of consumer products stalling.
But one segment delivered robust growth: cloud computing. Businesses continued investing in their digital transformations despite weakness in the broader economy because they recognize the cloud creates more long-term revenue opportunities while saving them money at the same time.
But while Amazon (AMZN 0.12%) and Microsoft (MSFT 0.59%) lead the cloud industry, it was Alphabet's (GOOGL 0.01%) (GOOG 0.10%) Google Cloud that beat them for growth in Q4. Here's everything you need to know if you're looking to buy Alphabet stock.
Image source: Getty Images.
Alphabet's reliance on advertising was a drag in 2022
Before jumping into the cloud, it's important to acknowledge the weakness in the core areas of Alphabet's business. Inflation tore through the economy last year, which prompted the fastest rise in interest rates in history, crushing the spending power of consumers, and eventually hurting sales across most businesses. That was a problem for Alphabet because Google Search accounts for more than half of the company's total revenue, and it relies on selling digital advertising to businesses that were trimming their marketing budgets. Search revenue came in at $162.4 billion during 2022, up just 9% compared to 2021. Most of the weakness arrived in the back half of the year, with Q4 search revenue actually down year over year.
Alphabet's world-leading video streaming platform, YouTube, suffered a similar fate, with advertising revenue down in both the third quarter and Q4. I recently wrote that 2023 would be critical for YouTube as it begins to more effectively monetize Shorts, its short-form video format designed to compete with ByteDance's TikTok. At the beginning of 2022, Shorts reached 30 billion views each day, and by the end of 2022, that viewership number had soared to 50 billion.
Following the weakness across Alphabet's core segments, the company announced last month that it planned to lay off 12,000 employees in an attempt to cut costs.
Google won the cloud race in the fourth quarter
The race for market share in the cloud services business is high-stakes. An estimate by Grand View Research suggests it could be worth more than $1.5 trillion annually by 2030 -- so that's a pretty big pie.
The top three providers (in order) are Amazon Web Services (AWS), Microsoft Azure, and Google Cloud. Combined, they offer hundreds of products and solutions for businesses, helping them migrate their operations online to drive efficiency and reduce friction for customers.
In the recent fourth quarter, AWS revenue grew by 20% year over year. Microsoft Azure delivered a 31% increase. But Google Cloud had the edge on both of them with a jump of 32%.
To be clear, it's the smallest of the three by a pretty wide margin -- Google Cloud's $7.3 billion in Q4 revenue pales in comparison to the $21.3 billion delivered by AWS, but the quicker growth rate suggests Google Cloud is closing the gap and stealing market share. But there's one thing on the horizon that could accelerate that trend.
Get ready for an AI-first Alphabet
Artificial intelligence (AI) became the talk of Wall Street this year after Microsoft swooped in and added $10 billion to its stake in OpenAI, which is responsible for the captivating ChatGPT conversational language model. Microsoft offers OpenAI as a service through the Azure cloud platform, and that's just one frontier Alphabet will have to compete on.
CEO Sundar Pichai already views Alphabet as an AI-first company. On the Q4 earnings call, he touted Alphabet's leadership position and reminded investors that many developments in the AI industry today spawned from his company's work.
The cloud is where this battle will be fought and won because, ultimately, monetization is key and businesses will be responsible for harnessing the technology to serve consumers and end users. Google Cloud customers can access Vertex AI, which provides a host of different pre-trained models to analyze natural language, vision, and video. It can facilitate translations and speech-to-text applications, for example, or applications that scan videos to recognize and eliminate illicit content. Plus, Vertex AI offers low-code tools for developers who want to train their own AI and machine learning models.
Soon, Alphabet will roll out new AI-driven language models for Google Docs and Gmail, which could create new monetization opportunities on those popular platforms. But, perhaps most importantly, it will integrate new AI tools into Google Search. That's key because it still has a 92% global market share, which Microsoft wants to steal by integrating ChatGPT into its Bing search engine.
Alphabet stock is still relatively cheap
Alphabet generated $4.56 in earnings per share in 2022. That places its stock at a price-to-earnings (P/E) ratio of 22.5, which is actually cheaper than the 24.4 P/E of the Nasdaq-100 index. In other words, Alphabet stock will have to climb by almost 9% just to trade in line with its peers in the technology sector. It's still down 30% from its all-time high amid the broader market sell-off last year, yet it maintains a $1.3 trillion valuation.
If Google Cloud continues to outgrow its competitors, and the economy improves, sparking more advertising spend from businesses, Alphabet stock could be destined for much higher ground in 2023. That doesn't even account for the long-term opportunity in artificial intelligence, which will likely be worth trillions of dollars in the decades to come.
