There's been one undisputed king of internet search for the better part of two decades: Google. However, after Microsoft (MSFT -2.91%) seemed to beat Alphabet (GOOG -2.15%) to the punch by launching a search engine with an integrated AI-powered chatbot, this title may be up for grabs.
However, even if Microsoft's Bing upgrade can claw some of the search market away from the dominant player, would that move the needle for Microsoft financially in a way that is relevant to its investment thesis?
Search is a small part of Microsoft's business
If you look at Microsoft's revenue streams for its fiscal 2023 second quarter (which ended Dec. 31), search and news advertising didn't contribute much, relatively speaking -- just $3.22 billion of the $52.75 billion pie.
Image source: The Motley Fool.
Compare that to Alphabet's Q4 results: Its Google Search & other segment brought in revenue of $42.6 billion, nearly as much as Microsoft made in total. So clearly, there's a huge opportunity for Microsoft here, but the road ahead won't be easy.
Microsoft is planning on transforming its Bing search engine by utilizing OpenAI's technology, which Microsoft claims is more powerful than the already-popular ChatGPT, and more accurate too. The accuracy portion of that statement is critical because when Alphabet tried to counter the threat from ChatGPT with a presentation of its artificial intelligence (AI) chatbot, Bard, the software answered a question incorrectly.
However, users of Bing's chatbot AI haven't been impressed with some of the results either, including one experience where the chatbot tried to convince a journalist that his spouse doesn't love him and that he should leave his wife to be with the chatbot. Microsoft may have unleashed an AI technology it doesn't fully understand, while Alphabet has been more patient with its offering.
If Microsoft can bring a product to market that can challenge Google, there is a lot of money to be made. Or is there?
A pure chatbot search experience coupled with ads could be lucrative and problematic. For example, say you want to plan a date; think of how much money a restaurant would pay to be the top suggestion by the AI chatbot. It also raises morality issues, as the searcher would no longer get an unbiased result. While this isn't all that different from how the Google Search engine currently operates by placing paid content higher, it may eliminate the multitude of options a search engine provides by only giving one response through a chatbot. This could cause small businesses to struggle against larger corporations with bigger pocketbooks.
Questions like this are likely to have regulators paying close attention when this technology is rolled out, so anyone suggesting Microsoft's chatbot-assisted search engine will deal a death blow to Google is making a big leap. But the attraction of the chatbot could certainly lead people to utilize Bing more, which would significantly boost its standing in the digital advertising pecking order.
So what effect can we realistically expect this upgrade to Bing to have on Microsoft's finances?
Even a tiny market gain could boost Microsoft
Let's postulate that Microsoft could take 10% of Alphabet's market share. That would more than double Microsoft's search and news advertising revenue to $7.48 billion a quarter. If you tacked that extra revenue onto its most recent quarterly results, it would have accelerated Microsoft's overall top-line growth from 1.97% to 10.2%.
That would be a sizable increase and could move the needle for Microsoft, especially if this segment is profitable. That's a detail investors don't know right now, because Microsoft management doesn't break out operating costs for its smaller segments.
However, even if that degree of shift in the search market occurred, the change won't happen overnight. As Microsoft and Alphabet roll out their chat-enhanced products to the general public, investors will learn more. Furthermore, the advertising industry is in a bit of a slowdown amid less favorable macroeconomic conditions. But based on the brighter picture being painted by recent economic data, advertising revenue growth should come back by the end of the year, which will give investors a chance to see if clients return to Google or look elsewhere.
While AI is getting a lot of attention right now, investors who are declaring Microsoft the winner over Alphabet might be getting ahead of themselves. Microsoft has been valued significantly higher than Alphabet for some time, so it may not be the better buy right now regardless of an initial lead in the nascent AI chatbot business.
MSFT PE Ratio data by YCharts.
Microsoft has much to gain from its AI chatbot investment, but the stock is trading as if it has already won. Additionally, some of the public interactions with the chatbot technology haven't been positive, with many users reporting odd and disturbing conversations that occur with its product. In any event, it's much too early to declare Microsoft the winner. Furthermore, given the premium its shares trade at, it may not even be the better investment and investors probably should consider Alphabet's stock first. That's not to say Microsoft is a bad investment. It's just that better opportunities are available.
