With many stocks having now recovered most of the losses sparked by April's "Liberation Day" crash, there aren't a lot of bargain stocks to be found. However, a look at the biggest companies on the market or running a stock screener will turn up one stock that looks undervalued: Alphabet (GOOG 4.73%) (GOOGL 5.04%).
The search giant currently trades at a price-to-earnings ratio (P/E) of just 18.5, which is close to a 30% discount from the S&P 500's P/E of 25.9. That discount comes as Alphabet's growth remains solid. In its first-quarter earnings report, revenue rose 12% to $90.2 billion, with operating income jumping 20% to $30.6 billion.
However, there's more to investing than the most recent quarter's performance. There seems to be two major reasons Alphabet's valuation has fallen. Below, I'll take a look at both of those before evaluating whether Alphabet stock is a buy.
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The regulatory risk
Alphabet has long been regarded by investors as essentially having a monopoly in search, which has made it one of the most valuable companies in the world. However, that monopolistic advantage now seems to have caught the eye of regulators. Last August, a U.S. District Court ruled that Google is a monopolist and has acted like one through tactics like paying billions to Apple to be the default search engine on its devices.
Alphabet is now awaiting a second trial to determine remedies, which could include a potential breakup of the company. It announced plans to file an appeal against the decision.
More recently, Alphabet was found to have a monopoly in ad tech, as well, including the market for ad exchanges and for publisher ad servers. Combined, those two rulings pose a serious threat to Alphabet, as they could result in a massive fine or force the divestment of key parts of its business. Other restrictions could significantly lower its profit margin, as well.
The competitive risk
Ironically, the other risk that appears to be dragging down Alphabet's stock is the competitive threat from artificial intelligence (AI)-based search alternatives like ChatGPT, Perplexity, Claude, and others. Alphabet launched its Gemini large language model (LLM) several months ago, and its AI overviews in search also offer a response to competition from start-up chatbots.
While Google has held its own thus far as its steady growth shows, investors still seem to be fearful of competition. This was evidenced when the stock plunged after Apple revealed that it was considering adding AI search engines, like Perplexity, to its Safari browser.
That risk has hung over the stock like a cloud ever since the launch of ChatGPT. Alphabet stock tumbled early in the AI era after it was seen as bungling the launch of Bard, its LLM.
To some extent, the competitive threat should negate some of the regulatory risk. However, it's unclear if the courts will see it that way as the Department of Justice still seems motivated to break up the company.
Is Alphabet a buy?
At the current valuation, the risk/reward thesis for Alphabet stock seems favorable. A fine would have to be over $100 billion to do significant damage to the company, as it makes that much in profit annually.
A breakup seems to be investors' biggest fear. However, even that could unlock some value for shareholders, as the "sum of the parts" of Alphabet is arguably worth more than its current valuation, given the strength of businesses like YouTube and Google Cloud, and the potential of Waymo.
While Alphabet could be vulnerable to future news on the regulatory front or from new competition, the stock looks too cheap to ignore at the current valuation. It looks like a good bet to outperform.
