Here's Why We're Boosting Our Alphabet Price Target
Alphabet’s capital spending plans support our stance on Nvidia and Marvell shares.
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* We are lifting our price target for Alphabet shares to $200 from $165, reiterating our One rating and upping our panic point to $140 from $125
* Accelerating revenue growth, especially for YouTube and Cloud, plus margin expansion prospects are lifting 2024 EPS expectations
* Alphabet initiated a $0.20 per share quarterly cash dividend and added $70 billion to its share repurchase program
* Alphabet’s capital spending plans support our stance on Nvidia and Marvell shares
In response to Alphabet’s (GOOGL) strong March quarter showing, prospects for both accelerating revenue growth, especially at YouTube and Cloud, and continued margin expansion despite investing in AI, we are boosting our GOOGL price target to $200 from $165.
The company also announced two moves, initiating a quarterly dividend, and upsizing by a longshot its buyback program, which will bring another layer of ownership interest and support for the shares. Alongside our price target increase boost, we reiterate our One rating.
That said, given the post-earnings pop we are seeing in GOOGL shares this morning, we would suggest members wait for the shares to settle down, letting last night’s earnings and subsequent EPS and price target revisions wash over them.
Alphabet’s March Quarter and Outlook
For its March quarter, Alphabet posted EPS of $1.89, well ahead of the $1.51 consensus and $1.17 in the year-ago quarter. That upside was fostered by the 15% year-over-year increase in the company’s top line but also 700 basis points of margin expansion. Total advertising-related revenue soared 13% compared to the year-ago quarter, with notable strength at YouTube, up 21% on the same basis, while the core Google Search & Other advertising business grew 14%.
Those gains offset the modest contraction in Google Network advertising. Posting even faster revenue growth was Google Cloud, up more than 28% year over year, a far quicker pace than the 25.7% year-over-year growth rate posted in the December quarter. This should quell concerns Google Cloud was not winning its share of cloud adoption, but it speaks to the company’s AI efforts as well.
The drivers of that reported 700 basis points of operating margin expansion were improved profitability at Google Services and continued profit improvement at Google Cloud. The operating margin at Google Services rose to ~60% from 53.8% in the year-ago quarter and 55.7% in the December quarter. Clearly, the company’s cost reduction efforts are paying off and we see this very clearly when we look at its P&L statement.
While total company revenues rose 15% year over year in the March quarter, its overall operating profit jumped 46%. Tight cost controls as well as a drop in absolute Sales & Marketing expenses were the enablers. Those efforts plus the adoption of AI in its advertising businesses bodes well should allow Alphabet’s margins to show meaningful year-over-year improvement in the coming quarters. Combined with top-line prospects, we will see Wall Street lift EPS expectations and subsequently price targets for our shares as well.
The combination of revenue scaling and cost reduction at Google Cloud-enabled its operating margin to reach 9.4% in 1Q 2024, up from 2.5% in the year-ago quarter. To put that into proper perspective, however, that business continues to generate a meager amount, about 3%, of Alphabet’s overall operating profit.
The other 97% continues to be generated by Google Services, which is largely driven by advertising revenue from Google Search and YouTube. That business should continue to benefit from the shift to digital advertising, especially with this year being an election year, as well as Google’s continued focus on retailers.
While some will focus on market share movements between Google Cloud, Microsoft’s Azure, and Amazon’s AMZN Amazon Web Services, for now, our view is AI adoption will meaningfully augment cloud growth prospects for the coming quarters. Helping foster that adoption, over the last eight months, Google Cloud introduced more than 1,000 new products, showcased more than 300 customers at its recent Google Cloud Next event, and counts more than 60% of funded Gen AI startups and nearly 90% of Gen AI unicorns are Google Cloud customers.
That allows us to see growth prospects ahead for Google Cloud. On the margin front for the business, we should see further improvement but given the company’s investments, it’s likely to be a while before Google Cloud’s operating margin approaches the 27% level posted by Amazon Web Services last year let alone the higher margins at Microsoft’s Intelligent Cloud business.
Odds are that kind of operating leverage will start to appear once Google’s AI investment efforts start to slow. For now, that means, the primary driver of profits will be Google’s advertising businesses, which are very well positioned in what should be a very strong year for digital advertising.
Dividends and Buybacks
As we noted above, alongside its wonderful March quarter earnings report, Alphabet announced a new dividend program beginning with a quarterly $0.20 per share dividend. The first dividend will be paid on June 17 to stockholders of record as of June 10. While the annualized yield is a small one, the fact that Alphabet is now a dividend payer means there will be a new class of potentially interested investors for the shares.
During the March quarter, Alphabet repurchased $16.1 billion in stock, leaving its $70 billion March authorization with $20.4 million remaining at the end of March. In addition to beginning a dividend program, Alphabet’s Board also authorized the company to repurchase up to an additional $70.0 billion of its shares, putting its total buyback power at roughly $90 billion. Our thinking is this will help backstop our GOOGL shares, and as that program is utilized it could modestly help the company’s EPS comparison.
Connecting the Dots to Nvidia, Marvell, and The Trade Desk
As we discussed, Alphabet’s cost reduction efforts are delivering margin and EPS gains, but it continues to invest for the road ahead. During the March quarter, the company’s capital spending totaled $12 billion, largely on AI and related infrastructure. Management targets 2024 capital spending near the 1Q level, which means the company is spending about $48 billion this year, up from $32.3 billion last year.
We see this benefitting our shares of Nvidia NVDA but also Marvell MRVL, which is Alphabet’s chip partner as well as the one for Microsoft MSFT and Meta META.
At the time of publication, TheStreet Pro Portfolio was long GOOGL, MSFT, NVDA, MRVL, AMZN.
