Stock splits tend to happen after substantial and sustained share price appreciation, which rarely happens by accident. Indeed, when shares appreciate to the point where a stock split is necessary, it usually hints at some desirable quality in the underlying business, and that quality does not disappear after the split takes place.
In other words, winners tend to keep on winning. The companies listed below provide proof. All of them split their stocks in the last three years, and all of them outperformed the S&P 500 (SNPINDEX: ^GSPC) over the last five years.
- Amazon: 20-for-1 split in June 2022
- Alphabet (GOOGL 0.97%) (GOOG 0.89%): 20-for-1 split in July 2022
- Nvidia: 4-for-1 split July 2021
- Palo Alto Networks: 3-for-1 split in September 2022
- Shopify: 10-for-1 split in June 2022
- Tesla: 3-for-1 split in August 2022
- The Trade Desk: 10-for-1 splits in June 2021
There are compelling reasons to own any of the stocks listed above, but Alphabet looks particularly attractive right now. The stock trades at less than $150 per share, making it widely affordable, and its valuation fails to fully account for growth prospects in digital advertising, cloud computing, and artificial intelligence (AI).
Moreover, now is a good time to put money into stocks. The S&P 500 is just four percentage points shy of bull market territory. That threshold is meaningful, because the index returned an average of 169% during past bull markets, and many stocks will undoubtedly soar during the next one.
How Alphabet makes money
Alphabet primarily makes money through Google, a subsidiary that recognizes two major revenue streams: (1) Google Services primarily consists of advertising through Google Search, YouTube, and third-party publishers, and (2) Google Cloud includes cloud infrastructure and platform services through Google Cloud Platform, and office productivity software through Google Workspace.
The chart below shows quarterly revenue in Google Services and Google Cloud over the last three years. It also shows the compound annual growth rate (CAGR) for each segment during that time.
Chart by Author.
The investment thesis for Alphabet centers on its leadership in digital advertising and its strong presence in cloud computing, two markets projected to grow quickly in the future. Specifically, Precedence Research expects the digital ad market to increase at 9.7% annually through 2032, while the cloud computing market should expand at 17% annually during the same period.
Alphabet is also leaning into machine learning (ML) and artificial intelligence (AI) across Google Services and Google Cloud to cement its strong position and extend its market share.
Google is the market leader in digital advertising
Google has a somewhat unique ability to engage consumers and source data due to its many popular platforms and web properties. The most widely adopted are Google Search, YouTube, and Android, but the company owns six products that serve over 2 billion users globally. That makes Google an irreplaceable advertising partner for brands, so much so that it holds about 29% market share in digital advertising worldwide.
Consultancy Gartner says Google is a leader in AI research, and the company is bringing that expertise to bear on its advertising ecosystem. For instance, Google is blending generative AI features into Google Search to improve the user experience and create new opportunities for advertisers to reach consumers. Google is also adding generative AI capabilities to Google Ads to automate marketing workflows like media content creation and copywriting.
Ultimately, that type of innovation could help Google maintain its dominance in digital advertising, and even extend its already prodigious market share.
Google is gaining market share in cloud computing
Google is the third-largest cloud infrastructure and platform services (CIPS) provider. It still trails Amazon and Microsoft by a wide margin, but the company has steadily gained market share due to investments in product development and go-to-market capabilities. Google Cloud Platform accounted for 11% of CIPS spending in the third quarter, up from 7% three years earlier.
Two areas where Google excels are big data and AI/ML. The company is a recognized leader in the AI infrastructure services market, and it has a strong presence in strategic platform services and cloud AI developer services. Management has outlined a product roadmap that plays into those strengths.
In March, Google began adding generative AI support to Vertex AI, its platform for training and deploying ML models and applications. Developers can now access and customize a growing list of pretrained models -- including PaLM 2 and Gemini from Google -- and incorporate them into generative AI applications for text, images, video, and audio.
In August, Google launched Duet AI for Google Workspace, a natural language interface that can automate workflows across its office productivity software. For instance, Duet AI can draft text in Google Docs, review emails in Gmail, create presentations in Google Slides, and organize data in Google Sheets.
Collectively, those AI innovations could draw more businesses to Google Cloud products in the coming years, and they could help the company better monetize its existing customers.
Why Alphabet stock is worth buying
To summarize, digital ad spending is forecast to increase by nearly 10% annually through 2032, and cloud computing spending is expected to increase by 17% annually during the same period. Alphabet has a strong presence in both spaces, so the company has a great shot at low-double-digit revenue growth during the next decade. Its historical financial performance backs that assessment.
With that in mind, its current valuation of 5.9 times sales looks relatively cheap, especially when the three-year and 10-year averages are both 6.4 times sales. Patient investors willing to hold their shares for at least five years should feel very comfortable buying a small position in this growth stock today.
