Google: A Truly Undervalued Large Cap

Summary

• Google is among the large-cap tech stocks that have been suffering post earnings.
• The company announced $70 billion in buybacks, something it can comfortably afford, which will support share prices in a difficult time.
• The company is continuing to invest economically in growth versus its peers.
• Overall, the company has a unique asset base distributed across numerous internet properties that we expect will support long-term profits.
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Alphabet (NASDAQ:GOOGL) was among the technology conglomerates to struggle through a difficult earnings season. The company's share price is now almost 30% below its 52-week highs. However, despite this weakness, as we'll see throughout this article, the company is an undervalued large cap with significant earnings potential.

Alphabet Quarterly Results

Alphabet had strong quarterly earnings, highlighting the strength of its financial position.

Alphabet Quarterly Results - Alphabet Investor Presentation

Alphabet earned almost $70 billion in revenue for the quarter, showing its financial strength. The company's revenue increased by 23% YoY with a 26% increase in constant currency revenue. The company managed to keep its operating margin constant with strong operating income increases from almost $16.5 billion to just under $20.1 billion.

The company has managed to steadily decrease its outstanding shares, and despite fluctuations in other income due to investments, continues to generate strong net income. The company can use that net income for a variety of shareholder returns.

Alphabet Segment Breakdown - Alphabet Investor Presentation

Looking at a breakdown of Alphabet's results, we can see numerous factors that to us show the strength of the company's business.

First, the company has seen consistent revenue growth among its portfolio of properties. Cloud, one of its largest new business segments, saw almost 50% growth, however, the company has seen Google Search, YouTube, and other profits grow significantly as well. It's worth noting that, despite the revenue, the company's other bets took an annualized loss of $5 billion.

However, we actually see this as incredibly promising. Plenty of large tech companies have "Other Bets" categories. Meta's (FB) Reality Labs loses >$12 billion annualized. Google has a much more diverse portfolio of other bets and it loses much less from the category, showing its ability to invest in its future while managing its finances.

More so, while revenue and income has been growing at 20% YoY, Google Cloud and Other Bets losses have remained fairly constant, again another sign of the company's financial strength. This makes us optimistic about the company's future earnings growth potential.

Alphabet Strong Financial Position

Alphabet has been building up a strong financial position on the back of its earnings.

Alphabet has a roughly $170 billion cash pile and minimal debt. The company's $1.5 trillion market capitalization means roughly 10% of its market cap is held in a net cash position. That means the company can start substantial shareholder rewards, starting with drawing down its net cash position, while also using its substantial cash flow.

That financial position also gives the company the ability to opportunistically look at acquisitions, growing projects, capital intensive projects, or weather a downturn without threatening the company.

Alphabet Shareholder Rewards

Alphabet is committed to strong shareholder rewards and we expect that the downturn will represent a unique opportunity for the company to generate long-term shareholder rewards.

The company has been rapidly ramping up share repurchases. The company authorized $25 billion in 2019 and $50 billion last year. With its most recent earnings report, the company authorized $70 billion, enough to repurchase roughly 5% of its shares outstanding. The company could cover that with its cash position or earnings over the next year.

The company has become the second largest company repurchasing shares, behind Apple (AAPL) (although with a market cap just over half that of Apple). That makes it one of the largest re-purchasers of shares by % of market cap. The company's outstanding shares have decreased noticeably over the last few years and we expect that trend to continue.

Overall, we see this as an example of large technology companies following the "Apple model" of share repurchases combined with earnings growth to generate continued market beating shareholder returns.

Our View

Despite the recent weakness in tech stocks, we still see many of them as substantially overvalued. However, Alphabet is the exception to that rule in our view. The company has a reasonable P/E ratio in the low 20s, backed up by double-digit revenue growth and even faster earnings growth for the company.

The company's largest sources of losses, its "Other Bets" and "Google Clouds" losses, have seen their loss rates remain roughly constant as the rest of the company's business has grown. We expect this to result in the company's earnings growing faster than revenue, generating strong shareholder rewards and making the company a valuable investment.

Thesis Risk

The largest risk to our thesis is the risks facing any tech company. Competition. Google continues to dominate mail and search. However, YouTube has struggled with competition from TikTok and other video formats. There's always the chance of increased competition for the company's core businesses which can hurt future earnings potential.

Conclusion

Alphabet is a collection, at this point of several hundred companies and startups. The company watched its revenue increase by double-digits YoY, highlighting its financial strength, and the company's operating income has the ability to continue increasing. The company announced a massive $70 billion buyback program.

The company can repurchase 5% of its outstanding shares with this repurchase program and can comfortably afford to keep it going for numerous years. The company's other bets and Google Cloud losses are going down indicating that profits could increase faster than revenue growth. This strength makes the company a valuable investment.

Analyst’s Disclosure: I/we have a beneficial long position in the shares of GOOGL either through stock ownership, options, or other derivatives. 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.