"Value investment" and "Magnificent Seven" often don't appear in the same sentence. The Magnificent Seven are a group of megacap growth stocks that dominated the market since the start of 2023. It includes Microsoft, Apple, Nvidia, Amazon, Alphabet (GOOG +0.31%) (GOOGL +0.25%), Meta Platforms, and Tesla.
But within this group, one can also be considered a value investment: Alphabet. It has all the key makings of a value investment, but with the upside of a growth company. This aligns with two key investing principles and can provide strong returns if the company executes.
With Alphabet's strong track record, I'm positive it can be one of the top performers in the Magnificent Seven moving forward -- maybe even the best.
Alphabet's AI products haven't been hits like its competitors
Alphabet is likely better known by some products it owns: Google, YouTube, Android, and others. At its core is its advertising platform, which brought in 76% of its revenue during the fourth quarter.
But most of the headlines about Alphabet over the past year or so have been about its artificial intelligence (AI) blunders. While CEO Sundar Pinchai long described Alphabet as an AI-first company, the results don't back up that claim. OpenAI beat Alphabet to the punch by launching the first mainstream generative AI model, ChatGPT. Then, when Alphabet launched its Bard model to compete, the AI produced an incorrect answer during a demo. More recently, after Google rebranded Bard as Gemini for a fresh start, the model's image generation feature produced pictures that were wildly inaccurate relative to what the users were requesting.
Some investors are worried that Alphabet has been asleep at the wheel during the AI movement. Additionally, there are concerns that some of the inaccuracies in the public AI models could affect Alphabet's advertising business, potentially driving advertisers to other sources. Given that a large majority of its revenue comes from advertising, that could be a major blow to Alphabet.
But a lot of these fears are overblown.
NASDAQ: GOOGL
Key Data Points
Alphabet has been gathering engineering resources for many years and has the know-how to achieve its goals. But it will take some time before many of these improvements are felt. That makes now an excellent time to get in on the stock, as it's unlikely that a company the size of Alphabet will go quietly into the night.
Alphabet has the tools and finances to succeed
Due to Alphabet's blunders, its forward price-to-earnings (P/E) ratio has fallen slightly below the average ratio of the S&P 500.
GOOGL PE Ratio data by YCharts.
With the S&P 500 trading at 23.2 times trailing earnings and 21.1 times forward earnings, Alphabet's stock is essentially considered average by the market. But its financials tell a different story.
In Q4, Alphabet's revenue rose 13% year over year. Additionally, its operating margin improved by 3 percentage points to 27%. This reflects a recovering ad market, which struggled throughout late 2022 and early 2023 as companies prepared for what they thought was an inevitable recession.
Alphabet also has significant financial firepower if it chooses to make an acquisition. With over $110 billion in cash and equivalents on its balance sheet, it could afford to buy the 135th-largest company in the world without taking on a penny of debt. While such deals wouldn't make much sense for it, Alphabet could, in theory, buy Airbnb, Lockheed Martin, or Deere & Company at their current market caps. But some of that cash pile could also be used to purchase a promising AI company that could boost Alphabet's AI game.
Alphabet's stock is marginally cheaper than the market average despite the financial success it's experiencing. While AI is a different story, Alphabet has far too many resources not to produce a successful product. It's just a matter of time.
I'm confident that Alphabet is a great value and growth investment, making it one of my top stocks to buy right now.
