This year was a busy, and bullish, one for Alphabet (GOOG, GOOGL).
One of the biggest events was, of course, the name change and the subsequent restructuring of the company into two divisions: one that monetizes its web presence and another that’s developing several so-called “moonshots.”
Meanwhile, Google stock is up more than 40% year-to-date, spurred by continued growth of what the company does best.
And yet, a 40% gain in one year is a tough act to follow. Can owners of Google stock realistically expect the recent split into two divisions to facilitate another strong gain in 2016? Or might the big advance have taken GOOGL shares to a valuation that’s simply not sustainable, even if Alphabet does manage to reach the market’s lofty earnings expectations?
Another Great Year for GOOGL
If analysts are on target, Alphabet should report revenue of $74.5 billion for calendar/fiscal 2015, and turn that into a profit of $28.99 per share of Google stock. Both are better than the year-ago figures of $66.0 billion and $25.14 per share, though neither figure has grown atypically for the technology giant.
That’s not to say it’s been an easy year for Alphabet, however.
While the headwind started to build before this year, 2015 is the year Alphabet (1) was forced to acknowledge mobile advertising simply isn’t as profitable as the desktop search ad business that made Google great, and (2) actually did something meaningful about No. 1.
Specifically, per-click revenue was down — again — in 2015, and ad revenue has only grown because of the sheer number of users Google is bringing into the fold.
The strategy works, but it can’t work forever. Eventually, Google will hit a ceiling in terms of the number of paid clicks it can inspire simply because there are a finite number of people in the world with Internet access.
As was noted, though, Google is finally doing something big about it. It may not completely turn the trend of lower per-click revenue around, but this year it introduced a reworked YouTube ad-sales model that had been marked by low cost-per-click prices but very high volume, and unveiled search-placement preference for websites that cater to users of mobile devices.
Google is still not in the end zone, so to speak, though it’s at least moving in that direction. This is critical, as ad sales still make up the vast majority of the company’s business.
What’s in Store for Alphabet in 2016?
As for the coming year’s catalysts, there are plenty that could keep interest in Google stock stirred up. One of them is the recent rumor that Alphabet is finally ready to take its driverless vehicle to the mass-production stage, with Ford (F) being specifically named as the exclusive partner.
It should be made clear that the tie-up is just a rumor, and even if it is true, consumers won’t likely see a Google-branded electric vehicle in showrooms anytime soon. It doesn’t matter, however, as the advent and buzz that the vehicle’s development is even this far along could fuel euphoria over the course of 2016. And if it’s not Ford, then it will be another manufacturer… sooner or later.
Though far less organized right now than its driverless car effort, investors of Google stock may also want to mentally prepare for a better, smarter R&D effort with its robotics capabilities acquired over the past couple of years.
Nevertheless, Alphabet’s bread and butter will remain Google itself — its ad-sales arm — in and beyond 2016. Its advertising business should drive the bulk of the expected top line of $86.1 billion in revenue for the coming year, which translates into a per-share profit of $34.14. Those figures are 15.7% and 17.7% better, respectively, than the corresponding projected numbers for 2015.
And just for the record, Alphabet hasn’t not grown at a comparable pace in over ten years. In other words, Alphabet hasn’t let anyone with reasonable expectations down yet.
Bottom Line on Google Stock
While Alphabet/Google never seems to be shy of talking about itself and never short of third party opinions, an unbiased view of the past and present paints a picture of what to broadly expect in the future.
That is, a cash-cow advertising business that funds related growth drivers and still has enough to spend on “lottery tickets” like driverless cars and robots. That’s nothing now, and not likely to change anytime in the foreseeable future. Analyst outlooks for 2016 are probably fairly accurate ones.
With that as the backdrop, the debate once again turns back to a value-based one, and that’s where GOOGL hits a wall.
Alphabet, Google, or whatever you want to call it is a great company, but with a forward-looking P/E of 22.3, the stock is already at the upper limit of what investors are willing to sustain for the long haul. Ergo, GOOGL is likely to remain capped at $780 until 2017’s numbers become clearer.
That certainly doesn’t mean it’s not a buy on strong dips well below $780, though. A pullback to the $600 area in 2016 may be a solid buying opportunity.
As of this writing, James Brumley did not hold a position in any of the aforementioned securities.
