When I first covered $Alphabet(GOOG)$ in a spotlight article on September 23, 2023, the consensus in the market was that the company was in real trouble. ChatGPT was gaining momentum, Google search was under threat, and even if Google could do something in AI, it may have to kill the golden goose to keep from being disrupted.
I usually bet on disruption, but in a lot of ways, my Alphabet pick was going against disruption. And it was because I saw AI being more of a sustaining innovation rather than a disruptive innovation.
I used ChatGPT in the early days, but I saw my wife look at me sideways when I talked about AI. Conversations with friends and neighbors never touched on AI.
The conversation online wasn’t real life, and I thought owning Google search, Chrome, Android, and YouTube — not to mention one of the best AI labs and arguably the best infrastructure in the world — would be enough to make Alphabet a good asymmetric opportunity, especially when I was buying at ~15x earnings.
It’s worked out, and after today’s 10% gain, Alphabet is up 189% since the spotlight was published. In the Asymmetric Portfolio, Alphabet is the #1 holding and is up 137% on my $161.42 cost basis. A little more than a 4x from here and you have a 10x stock!
And I think it could get there.
Search Is FAR From Dead
In a world of high-frequency trading and artificial intelligence, we need to lean into our advantages as investors.
One advantage is…we’re human.
That may seem crazy, but it’s true. We can see what’s happening in the real world and the market and call “B.S.” when there’s a mismatch between reality and prices.
One thing I think I saw clearly was the non-disruption of search from AI chatbots. Despite the disruption narrative in Silicon Valley and on Twitter, in the real world, I saw very few people using chatbots to shop or work. Sure, people tried ChatGPT, but it didn’t replace the search bar within a browser for most people.
Slowly, Google incorporated AI answers into search itself and learned how to monetize those queries just as successfully as they did 10 blue links. Not only did search not suffer, it grew faster!
And it’s not just search that has momentum today.
This chart shows revenue from search, Google Network, Subscriptions, Platforms, and Devices (includes Android), and YouTube. You can see that everything but the legacy Google Network business is growing and operating profit has nearly doubled in a little over three years.
I can’t stress enough how impressive this is. The ecosystem of products and services is working as well as investors could have hoped.
And there’s no reason to think the momentum will stop. ChatGPT doesn’t appear to be replacing search. Gemini is gaining market share in chatbots, and AI models are being incorporated into every corner of Alphabet’s business.
The core is strong.
Google Cloud Is Winning!
What was unexpected was the strength in the cloud. Google Cloud grew revenue 63% in the first quarter, and operating margin nearly doubled to 32.9%.
Let me say that again. Google Cloud grew 63%!!!
This is partly about Alphabet spending $180 billion+ this year in capital expenditures and plans to increase that “significantly” in 2027. More capacity is naturally going to lead to more revenue in a “constrained” world.
But the revenue growth is evidence that Google’s strategy to outspend everyone is working. And, based on the booming backlog, it doesn’t look like the growth trajectory is ending anytime soon.
I’ve called this bludgeoning the competition.
Alphabet has more operating cash flow than any of the big tech companies and can therefore spend more on capex without taking on debt (which it’s also doing).
And with this capex looking like it’s paying off, given Google Cloud’s growth and improving margins, this may be the star of the show for the next few years.
I question what the ultimate ROI is for a lot of this capex, but given Alphabet’s core, the worst-case scenario would be cutting back on capex and churning out more cash.
The best case scenario is the cloud turns into a multi-trillion dollar business on its own with search, YouTube, Android, Waymo, etc being along for the ride.
The $37 Billion Surprise
We also can’t overlook the $37.7 billion in non-operating income in the quarter.
What’s this from?
Primarily, Alphabet’s investments in Anthropic and SpaceX.
When those companies raise money, Alphabet needs to mark these assets to their market value, and that’s why we see this gain.
It’s crazy that Alphabet is winning in search, winning in AI, winning in the cloud, AND owns big stakes in two of the hottest companies in the world.
Alphabet Is Now In Pole Position in AI
I continue to think Alphabet is the “easy button” in AI.
The infrastructure advantages seem to be very real, and the company’s AI products and models are at least keeping up, if not leading the competition.
In a world where capital matters, Alphabet has the ability to win on multiple fronts. It can build through existing products, but it can also grow the cloud and sign massive deals with companies like Anthropic that it also has an equity stake in.
It’s not the sexiest name on the market, but Alphabet is one of the best companies ever created.
That’s not something I’m going to sell anytime soon.
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