Michael Nathanson on Alphabet's Q1 earnings: The modernization through AI is really working

Alphabet Earnings Analysis: Nathanson's Perspective

Key Concepts:

• Alphabet's double-digit search growth despite AI competition
• Diversification into YouTube, Cloud, and Waymo
• Waymo's potential valuation as a "call option"
• AI-driven monetization in search and cloud
• Impact of tariffs and de minimis shipping on advertising revenue

I. Alphabet's Earnings and Search Growth

• Main Point: Despite concerns about AI competition (ChatGPT, Perplexity), Alphabet continues to show strong growth, particularly in search.
• Details:
  • Alphabet has achieved double-digit growth in search for seven consecutive quarters since the arrival of ChatGPT.
  • This performance defies expectations of deceleration due to the changing search landscape.
• Argument: The market's anxiety about Alphabet's deceleration may be premature.

II. The Impact of AI on Search

• Main Point: While AI-powered search tools like Perplexity may impact traditional "blue link" search, they don't necessarily cannibalize commercial searches.
• Details:
  • Commercial searches (e.g., restaurants, golf balls) are less likely to be displaced by AI search.
  • AI is also fueling growth within search and YouTube through monetization.
• Argument: The impact of AI on Alphabet's search revenue may be slower than anticipated.

III. Alphabet's Valuation and Diversification

• Main Point: Alphabet's stock is undervalued due to its diversified businesses and the market's failure to recognize their potential.
• Details:
  • Nathanson's price target for Alphabet is $210 per share.
  • The market is assigning Alphabet a lower multiple than the S&P 500, despite its higher growth potential.
  • YouTube is projected to generate $55 billion in revenue and become the largest media company.
  • Cloud is growing in the mid-20s and is expected to accelerate.
  • Alphabet's subscription business is projected to reach $20 billion.
• Argument: A breakup or restructuring of Alphabet could unlock significant value due to the sum of its parts being greater than its current market capitalization.

IV. Waymo's Untapped Potential

• Main Point: Waymo, Alphabet's autonomous driving unit, is not currently priced into the stock and represents a significant "call option."
• Details:
  • Nathanson estimates Waymo's potential valuation at $60 to $100 billion.
  • Waymo is not a major topic of discussion on Alphabet's earnings calls or among investors.
  • If Tesla's valuation is justified, Waymo's potential is substantial.

V. Capital Expenditure and AI Infrastructure

• Main Point: Alphabet's continued investment in AI infrastructure is a positive sign for the broader ecosystem.
• Details:
  • Alphabet is not slowing down its capital expenditure, reassuring the market about demand for AI chips and data centers.
  • Cloud growth is currently constrained by capacity, indicating that increased investment will drive further growth.
• Argument: Alphabet's monetization of AI is working, justifying continued investment in AI infrastructure.

VI. Advertising Slowdown and Tariffs

• Main Point: The potential impact of tariffs and the end of de minimis shipping on advertising revenue is a concern, particularly for small businesses.
• Details:
  • Chinese advertisers spend $18 billion on Meta, more than double since 2022.
  • Higher input costs and slowing consumer spending could negatively impact advertising revenue.
  • The administration may slow down the implementation of tariffs to mitigate the impact on the economy.
• Argument: While the impact of tariffs has not yet been seen, it is likely to have a negative effect on advertising revenue.

VII. Conclusion

Alphabet's recent earnings demonstrate resilience and continued growth, particularly in search, despite the rise of AI-powered search tools. The company's diversification into YouTube, Cloud, and Waymo presents significant growth opportunities that are not fully reflected in its current valuation. While concerns about the impact of tariffs on advertising revenue are valid, Alphabet's strong fundamentals and strategic investments position it for continued success.