Alphabet Earnings: Mixed Feelings

| About: Alphabet, Inc. (GOOG)
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GOOG will report on Thursday after close with consensus expectations mixed.

Key focus will be on YouTube, Android and VR/AR.

Continue to like the story given the moonshot potential. Remain bullish on the stock.

Alphabet (NASDAQ:GOOG) (NASDAQ:GOOGL) will report earnings on Thursday after market. The sentiment on the stock is quite mixed heading into the earnings with some expecting a modest result while the others are concerned over the tough comps. While YouTube could be a positive surprise in the quarter, margins could see downside risk. Overall, the mobile monetization will be a critical driver for search although this area is starting to see evidence of emerging competitive threats from Apple (NASDAQ:AAPL) and Facebook (NASDAQ:FB) that have so far been refining their own search within their respective ecosystems. Finally, moonshot projects remain the key future growth of GOOG given the risks associated with the core search. However, there has been limited improvement in this segment in recent quarters that raises the question whether GOOG can successfully commercialize and monetize these projects. To be clear, I am bullish on Alphabet's long-term outlook given the penetration of its ecosystem, which I consider to be superior and more sustainable than that of the iOS. If Alphabet's core segments beat expectations and if the "Other Bets" deliver another round of positive updates, then I believe the stock could go higher post-earnings. However, do note that GOOG has missed EPS estimates in 5 of the past 8 quarters while it missed revenue in 4 of the past 8 quarters, so the trend certainly does not look good.

Consensus expects revenue ex-TAC to be $16.86b and adjusted EPS of $8.03. Consensus expects CPC to be down 6% y/y while paid clicks is expected to see a +27% y/y growth. What I will be focusing on will be mobile monetization given that it is the key growth segment for GOOG and also an area where it is facing the structural challenge in mobile given the disintermediation by apps and competition from FB, Apple and Amazon (NASDAQ:AMZN). As such, diversification into cloud, VR, broadband, drones and Other Bets are critical to offset this potential weakness.

Key focus areas for GOOG will be YouTube, Android and VR.

YouTube will likely to be a bigger part of Alphabet's growth story in that the macro trend in cord-cutting and cord-shaving is supportive of the platform as viewership and engagement migrate to digital channels. This secular tailwind favors video distribution platforms that have a broad spectrum of content capable of attracting various audiences. In addition, the growing penetration of smart TVs globally with YouTube as a pre-installed channel app is also driving YouTube penetration higher, allowing Alphabet to steal more ad dollars away from TV. The recent overhaul on the cable set-top market by allowing third-party set-tops to have access to content is highly accretive to YouTube penetration, in my view (see - Google Scaling Up Online Video).

Android is another area that is critical to GOOG's future growth but there is evidence suggesting that the Android ecosystem could be at risk. Notably, media reported that Huawei is looking to develop its own OS to offset its reliance on Google. Given that Huawei is becoming one of the largest smartphone makers in the world with roughly 10% of the global market share, it makes sense for Huawei to develop its own OS to lessen the risk associated with being overly reliant on Android. Huawei's interest in developing its ecosystem is similar to that of Samsung's (OTC:SSNLF) decision to develop the Tizen. Broader migration away from Android could potentially destabilize the entire Android ecosystem, creating a domino effect where other large-scale OEMs have broad geographic footprints, large product portfolios and negotiation power on app developers to pursue their own mobile OS. This will certainly negatively impact GOOG's ability to sell advertising to current handsets that run on Android. More important, this further reinforces my view that GOOG needs to scale its Other Bets divisions such as driverless cars, broadband, wireless services and home automation to offset the risk to its core search business (see - Alphabet: Google Fiber Will Eat AT&T And Verizon's lunch).

Finally, VR will be another focus area given the amount of investments that Alphabet has dedicated. (Google Making Next Big Steps Into Virtual Reality?) Recent media pointed out that GOOG scrapped its VR product that was designed to compete directly against Oculus (see - Google: Getting Serious About Virtual Reality). Given the recent success with augmented-reality game such as Pokémon and the fact that GOOG has invested in AR startup Magic Leap, my guess is that GOOG is moving beyond VR to enhance its AR and refine its Google Glass to potentially transform it into a AR computing platform. Any commentaries on how GOOG plans to pursue its VR would be constructive to investor sentiment.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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