Alphabet Is Worth Far More than its Stock Price
Last month, Alphabet (formerly Google) hosted an event in Paris to show off its new artificial intelligence chatbot, Bard. The event came one day after Microsoft made a similar presentation of its own AI technology. The market was not impressed and shares dropped over 7%, closing at $100/share. Some had higher hopes that Alphabet’s AI solution would have more bells and whistles, but most analysts said it was just as good as its peers’ technology.
As contrarian investors, the 7% drop in a single day caught our attention and the stock moved to the top of our list for review.
Seven percent constituted a market capitalization drop of almost US$70 billion. To put that into perspective, US$70 billion is equivalent to the entire value of the Bank of Montreal. After completing our due diligence, we purchased the stock for our clients the next week. Our fill price was US$96.40/share. Yesterday, the stock closed at US$106.26/share, up about 10% in a month-and-a-half.
In 2022, as the U.S. Federal Reserve began raising rates, the technology sector fell out of favour as valuation multiples compressed. The pullback was appropriate for many of those technology stocks which lacked earnings and in some cases, revenue. Because the Fed has likely concluded its rate-hiking cycle, we believe the technology sector will receive multiple expansion going forward. This means that investors will pay a higher value for each dollar of earnings per share that a company generates. In other words, we expect Alphabet to trade at higher stock price without earnings any more money in the future than we presently expect them to generate.
How many company names are its own verb? You “Google” something you want to find out online. You don’t “TD Bank” when you need cash, “McDonalds” when you’re hungry, or “General Motors” when you need to get somewhere. The competitive moat and barriers to entry are generational. We’re not concerned about anti-trust attacks by governments abroad, especially when dysfunction is at an all time high.
Alphabet makes the lions share of its money on online advertising. About 57% comes from search, 10% from YouTube, and 10% from networking. Believe it or not, 30% of global advertising still flows through traditional media – that means television, newspaper, radio, and magazines. Online advertising allows businesses to target their audience far more effectively.
Yes, if we dip into a recession, advertising will be under siege. But that’s why the stock trades at $106/share, the same price it did two years ago in 2021. This company would weather a recession just fine. It is debt-free with $7.05/share in cash on its Balance Sheet (and no longer earning nothing on that cash).
We expect Alphabet’s earnings to grow 20% between this year and next, yet the stock trades at only 16 times earnings. By comparison, the S&P 500 trades at a more expensive 18 times earnings multiple, yet earnings are forecasted to grow a mere 1.6% this year.
Alphabet should trade well above its current stock price.
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