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Google Q4 Earnings: Missing an AI Edge

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Websim is the retail division of Intermonte, the primary intermediary of the Italian stock exchange for institutional investors. Leverage Shares often features in its speculative analysis based on macros/fundamentals. However, the information is published in Italian. To provide better information for our non-Italian investors, we bring to you a quick translation of the analysis they present to Italian retail investors. To ensure rapid delivery, text in the charts will not be translated. The views expressed here are of Websim. Leverage Shares in no way endorses these views. If you are unsure about the suitability of an investment, please seek financial advice. View the original at

“Magnificent Seven” colossus Alphabet Inc announced its Q4 earnings for 2023 on the 30th of January. Despite an uptick in overall revenues and income, the stock immediately took a tumble due to the stock missing expectations1. Said expectations are rather nuanced and gain importance in the current macroeconomic/market outlook.

Trend Studies

Given how keenly this stock features in investor sentiment (and its massive size in most broad market indices/ETFs), the fact pattern presented in its trends merits a highly nuanced look. First off, the company’s net revenues are analyzed on a regional basis under both first- and second-order terms.

Source: Leverage Shares

Region-wise, YoY trends in regional revenues show now single-digit growth, with EMEA and APAC at around 11-10%. The U.S. is the breadwinner for the company and alone accounts for as much as EMEA and APAC combined. Overall, the company’s geographical revenue streams have become fairly stable contributors.

Now, APAC historically registered growths far in excess of all other regions as seen in the 1st-order estimates. The fact that this segment’s growth is now nearly on par with all other regions is noteworthy since an “explosive growth” outlook is a key consideration for “Magnificent” status. In 1st-order terms, it can be seen that strong double-digit growth patterns has been slipping since 2022.

The 2nd-order changes (which estimate the rate of change) show no strong and sustained trends in either direction. One year’s fall is more-or-less made up in the next with no significant impact on geographical share. This buttresses the outlook that massive growth in its present mode of business cannot be reliably expected.

A similar framework applied on the company’s Net Income reveal a somewhat similar story, albeit with additional nuance.

Source: Leverage Shares

Overall, it can be seen that “Services” has witnessed progressive growth, thus making the burden of the other income-negative segments progressively easier to bear. It bears noting that the company’s long-in-the-making “Cloud” business is beginning to bear fruit in 2023 by finally turning weakly income-positive. Overall, its “Other Bets” (i.e. the likes of Waymo, Wing, et al) continue to consume cash. The 1st-order matrix reaffirms the dominant position occupied by “Services” while the wild swings in the 2nd-order matrix without really changing the segment share largely mirrors the “wax-and-wane” dynamic seen in the geographical estimates.

Outside of the numbers, however, the company’s growing “corporate costs”, which includes the costs borne by layoffs, litigation, et cetera continue to grow on an absolute basis. In 2023, the cost associated with downsizing office space in the wake of the company’s substantial layoff is a dominant feature. At the same time, it also highlights a somewhat tacit admission that growth is no longer a matter of personnel. What the company needs, instead, are new markets.

Alphabet remains dependent on ad spends. Advertisers are driven to spend to fulfill an outreach towards customers. However, in the region of greatest revenue contribution, i.e. the United States, overall consumer purchases are in decline. One interesting “proxy” for consumer behaviour could be represented by recent events at United Parcel Service (better known simply as “UPS”): after months of negotiations with the unions, the company announced the cutting of 12,000 jobs2, followed by a warning that parcel volume is likely to decline in the first half of the year (like most of 2023) followed by an expectation of some recovery in the second half of the year. Given its dependence on ad spends in America, this is a key factor in the deflation of forward-looking sentiment.

To maintain the company’s “Magnificent” status, an “explosive growth” rationale is needed. The AI theme has been a key driver for many a stock over the past year. On the front, the company finds itself on the backfoot (at least presently).

A Missing Edge?

For Alphabet, any imputation of AI driving revenue will be integrated into the performance of its segments. AI’s contribution to “Services” would likely be most visible as some estimation of greater search and ad matching efficiency as well as increased buy-ins into the cloud business by enterprises. In the former, this isn’t apparent yet.

In the latter, however, Alphabet is at least one or two beats behind the likes of Microsoft, which stated in its earnings call3 that Azure AI, by virtue of offering top performance for AI training and inference as well as the most diverse selection of AI accelerators – including the latest from AMD and Nvidia – has again made market share advancements in this past quarter. Microsoft CEO Satya Nadella stated that Microsoft is now infusing AI across every layer of its products and services, as a result of which it is winning new customers who can unlock new benefits and productivity gains.

To combat this, Alphabet is increasingly committing more and more resources to building its own place in this burgeoning market, as evidenced by its commitment to continue to spend in larger quantities to do so; greater capex is to be expected for success against the incumbent. Alphabet’s executives, for their part, seem to be asserting4 that the company’s upcoming model Gemini will be more powerful than Microsoft/OpenAI-affiliated ChatGPT 4 while holding forth that delivering the “world’s most advanced, safe, and responsible AI” is now the company’s number one priority.

Whether the service offering can be deemed substantively better than that by the likes of Microsoft, of course, remains to be seen.

In Conclusion

In its present business model, the company has hit peak growth and is now entirely stable. Given the preponderance of ad spends, it can also be assumed that the company has now gone from “growth champion” in investor expectations to a “bellwether” of the macroeconomic outlook.

The AI edge could be a game-changer but there’s a lot of ground to cover, especially given that other giants (and possibly some other small-yet-mighty upstarts) are deep in the fray. While it’s likely that Microsoft will be recognizing substantial revenue upticks as a result of its mostly-matured and effective AI-integrated offering from 2024 onwards, Alphabet still has a ways to go. Market share capture (if any) in this key battleground would likely be visible from 2025 onwards.

Until the dust settles, the stock can be expected to shed some of its more ambitious pricing levels: such is the plight of a “bellwether” in this economy.


Footnotes:

  1. “Alphabet Shares Fall After Search Revenue Misses Estimates”, 31 January 2024, Bloomberg
  2. “UPS to Cut 12,000 Jobs as Wages Rise and Package Volumes Fall”, 30 January 2024, New York Times
  3. “4 Key Takeaways From Microsoft’s Earnings Call”, 30 January 2024, Investopedia
  4. “Leaked Google Memo Shows Aimless Execs Basically Worshiping AI”, 27 January 2024, Yahoo! News
Your capital is at risk if you invest. You could lose all your investment. Please see the full risk warning here.

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Sandeep Rao

Research

Sandeep joined Leverage Shares in September 2020. He leads research on existing and new product lines, asset classes, and strategies, with special emphasis on analysis of recent events and developments.

Sandeep has longstanding experience with financial markets. Starting with a Chicago-based hedge fund as a financial engineer, his career has spanned a variety of domains and organizations over a course of 8 years – from Barclays Capital’s Prime Services Division to (most recently) Nasdaq’s Index Research Team.

Sandeep holds an M.S. in Finance as well as an MBA from Illinois Institute of Technology Chicago.

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For Julian, Leverage Shares is an innovator in the field of finance & fintech, and he always looks forward with excitement to share the next big news with investors in the UK & Europe.

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Violeta joined Leverage Shares in September 2022. She is responsible for conducting technical analysis, macro and equity research, providing valuable insights to help shape investment strategies for clients.

Prior to joining LS, Violeta worked at several high-profile investment firms in Australia, such as Tollhurst and Morgans Financial where she spent the past 12 years of her career.

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He joined Leverage Shares from UniCredit, where he was a corporate relationship manager for multinationals. His previous experience is in corporate finance and fund administration at firms like IBM Bulgaria and DeGiro / FundShare.

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