Alphabet Inc (NASDAQ:GOOGL, NASDAQ:GOOG) hit a meaningless milestone, reaching $1,000 per share. I say meaningless because absolute share price literally means nothing. It’s allegedly a psychological point of resistance, but in truth, this piece of information offers nothing for investors. It’s certainly not how I determine whether or not a stock is right for my stock advisory newsletter, The Liberty Portfolio, which depends on many different factors related to risk-adjusted returns.
GOOGL stock offers a mixed bag to the conscientious, value-oriented, risk-averse Liberty Portfolio investor. The internet changed the way advertising dollars were allocated. Once the internet became a real thing, money started flowing there from other media. Once GOOGL emerged as the leader in search — and the 800-pound gorilla, for that matter — advertisers have been rushing to throw money at GOOGL.
The problem is that Alphabet effectively remains a one-trick pony, albeit a very talented pony. About 88% of revenue comes from advertising. So, while we can talk all day long about how much of an amazing “tech play” GOOGL stock allegedly is, the truth is that it’s really only a digital billboard.
There’s nothing wrong with that, but let’s not call Alphabet stock something it isn’t. If you’re investing in GOOGL stock, you’re investing in an advertising company.
Online Advertising and GOOGL Stock Growth
The world is still growing as far as online advertising is concerned. That gives GOOGL stock plenty of runway. It still shows explosive growth in all aspects of advertising. The entire digital advertising pie is expected to continue increasing.
According to eMarketer.com:
“In all, digital media ad spending, which includes mobile, is surpassing all expectations. Outlays will jump 15.4% in 2016 to $68.82 billion, accounting for 35.8% of total media ad investment. By 2020, digital ad spending will reach $105.21 billion, growing its share of total media spending to 44.9%.”
That’s 66% growth over five years. Even when the world was in a financial collapse in 2009, ad spending only fell 12.3%. So, it would seem that GOOGL stock has a long way to go as a one-trick pony. Even if there’s another economic slowdown, the falloff in the financial crisis wasn’t that bad (at least as far as ad spending was concerned).
However, at some point, ad spending growth in general, as well as growth for Alphabet, is going to slow down. I’ve also always been concerned that Facebook Inc (NASDAQ:FB) and Twitter Inc (NYSE:TWTR) may actually be fudging their reported monthly active user numbers. Should such a thing come to pass, GOOGL stock would get hit along with them as faith in reported advertising data was undercut.
Alphabet Doesn’t Really Do Much Else
But, that’s not even the biggest concern; the biggest concern is that Alphabet isn’t really doing much else. Sure, the “other bets” division is nice and has some revenue, but until something real develops there, it’s not a real driver of growth or revenue.
While Amazon.com, Inc. (NASDAQ:AMZN) continues to make real strides with AWS and many other services, GOOGL concerns me because it isn’t making progress into other areas.
GOOGL stock is, essentially, in a race against time, albeit Grandfather Time, who is shuffling along. There’s no rush, but the company needs to get moving.
Alphabet has about $92 billion in cash, giving its business a market valuation of approximately $680 billion. With TTM net income of about $20.7 billion, that means Alphabet stock is trading at about 27x. As far as a straight-up valuation target, analysts show 5-year growth at 19%. I give GOOGL a 10% premium each for cash position, free cash flow and brand name, bringing a reasonable valuation to 24x earnings, and a PEG ratio of 1.15.
However, with growth stocks that are growing earnings at more than 15%, I will give a PEG ratio of up to 2.0. That still means GOOGL is a potential buy on a very rough examination.
Lawrence Meyers is the CEO of PDL Capital, a specialty lender focusing on consumer finance. As of this writing, he does not own any stocks mentioned. He has 22 years’ experience in the stock market, and has written more than 1,600 articles on investing. He also is the Manager of the forthcoming Liberty Portfolio. Lawrence Meyers can be reached at TheLibertyPortfolio@gmail.com.
