Google: Steep Plunge Unveils My Strong Buy Conviction (Rating Upgrade)

Summary:

• GOOGL stock has plunged nearly 15% in the past three weeks, revisiting lows last seen in July 2023.
• Investors are likely spooked about Google Cloud’s performance compared to Microsoft Azure. Market share losses were highlighted as Microsoft went on the generative AI offensive.
• Ad market softness from Q4 due to the recent Middle East conflict likely spurred further concerns about Google’s advertising recovery.
• However, GOOGL remains priced attractively, and more so after its recent tumble. I explain why investors who missed its summer rally should consider capitalizing on its recent decline to buy more shares.

I upgraded Google (NASDAQ:GOOGL) (NASDAQ:GOOG) stock in late July 2023 following its second-quarter or FQ2 earnings release back then. Although it continued its advance through its highs in October 2023, the steep decline after its recent FQ3 earnings scorecard likely stunned holders. Accordingly, GOOGL plunged nearly 15% over the past three weeks, with most losses incurred last week post-earnings.

As such, GOOGL revisited lows last seen in late July 2023 as investors assessed near-term headwinds in Google Cloud’s progress and a possible slowdown in the advertising market.

The contrast in Google Cloud’s performance against Microsoft (MSFT) Azure’s stellar earnings release was notable. Accordingly, Google Cloud posted a revenue growth of 22%, discernibly below Azure’s 29% increase. As such, concerns have been raised about whether Google could be losing market share in the cloud computing space, given Microsoft’s well-established partnership with OpenAI.

Microsoft’s advantages in the cloud computing space are well-recognized. I had indicated that the market has likely priced in its AI leadership, given its well-diversified enterprise customers. Furthermore, the partnership with OpenAI has further boosted the appeal of Microsoft’s bundling options as customers seek more cost-efficient Microsoft bundles to adopt AI solutions.

Despite that, Google’s advertising business demonstrated that it has recovered from the worst of last year’s problems, justifying its late October 2022 bottom. Given GOOGL’s remarkable 33% increase over the past year in total return basis, it’s arguable that the market has attempted to price in Google’s ad business recovery.

Notwithstanding the recovery, Meta Platforms (META) and Snap (SNAP) spooked investors that there could be higher execution headwinds in the near term. Meta noted “softer ad spending in the beginning of the fourth quarter, which correlates with the start of the Israel-Hamas conflict.” As such, investors are likely pricing in worsening geopolitical uncertainties not reflected in previous estimates.

As such, I assessed that the recent selloff is justified to reflect these risks. Also, it’s an opportunity for last year’s dip buyers to cut exposure, given the remarkable recovery from last year’s lows.

The Wall Street Journal, or WSJ, reported that Google committed a further $1.5B investment in AI company Anthropic, bringing its total committed funding to $2B. Structured as a convertible note, Google could convert it into equity during the “next funding round.” Keen investors should recall that Anthropic recently announced a $4B investment by Amazon (AMZN) as the Andy Jassy-led company looks to advance its generative AI ambitions.

Therefore, it seems like the Google-Amazon rivalry could intensify further as they hedge their bets against the market leadership of Microsoft-OpenAI. However, with Anthropic also committed to using Amazon’s AI chips and services, it remains to be seen how this power-play between Google and Amazon could play out. Still, the move corroborates that the Microsoft-OpenAI collaboration is likely leading as their rivals scramble to catch up with the King of SaaS.

A recent Digitimes Research report also stressed Microsoft’s leadership, as the company is expected to ship 76K “high-end AI servers in 2023, accounting for a shipment share of 44.2%.” That metric “is higher than the combined shipments of the second to fifth-ranked players,” including Google, in second place with just over 20K shipments.

Despite that, I assessed that GOOGL’s valuation remains highly favorable. Its risk/reward profile has improved further after its recent collapse. At a forward EBITDA of 10.7x, it’s priced at a marked discount against its 10Y average of 12.6x.

While the market is right to reflect near-term headwinds, I believe it also represents a fantastic opportunity for patient investors to pick up the pieces as GOOGL falls back into undervalued zones.

Takeaway

Google is still the advertising behemoth. Its robust performance in Q3 demonstrated that it’s well-placed to continue dominating its smaller peers in the search and streaming space.

Its cloud business has faced near-term challenges against the leadership of Microsoft. However, it’s not unexpected and likely priced in. The near-term ad market softness could affect its recovery in Q4. However, geopolitical headwinds aren’t expected to be long-term deal breakers for patient investors willing to tide through near-term downside.

As such, I see a more constructive opportunity for investors who missed its summer rally to pick up more shares at an attractive valuation.

Rating: Upgraded to Strong Buy.

Important note: Investors are reminded to do their due diligence and not rely on the information provided as financial advice. Please always apply independent thinking and note that the rating is not intended to time a specific entry/exit at the point of writing unless otherwise specified.

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Analyst’s Disclosure: I/we have a beneficial long position in the shares of GOOGL, MSFT, AMZN, META 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.

Seeking Alpha’s Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.

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