Alphabet Inc (NASDAQ:GOOGL) may just be a victim of its own success. Despite a solid second-quarter earnings report in late July, GOOGL stock has had a difficult time holding on to the momentum of 2017’s first half, shedding 6% in less than a month.
The question is, is this dip worth buying?
On the positive side, revenues jumped 20% year-over-year to top Wall Street expectations, and while earnings dipped hard, much of that was from a one-time $2.74 billion fine from the European Commission. Profits still managed to beat analyst expectations.
However, the bears have had a few signs of their own to point toward. GOOGL stock has lost its momentum, and a recent report has cast doubt on Alphabet’s deal-making prowess.
So, should you buy Alphabet stock right now, or would investors be better off waiting for this dip to become a trench?
Cons of GOOGL Stock
Alphabet Wants to Buy Snap? A Business Insider report claims Google offered to pay at least $30 billion to acquire Snap Inc (NYSE:SNAP) in 2016. Incredibly enough, according to one source, Google left an offer “on the table since the IPO.” Since then, Snap’s value has fallen to roughly $15 billion, so had Snap accepted, it’s possible Alphabet would’ve had egg on its face.
Some investors have long fretted that Google has too many businesses under its roof, symbolized by the name change to Alphabet. While you can’t read too much into a name, in this case, it illustrated the real move away from search and into more far-flung fields. So far, some of the company’s other ventures have paid off, but CFO Ruth Porat was brought in for a reason — to scrap some of the company’s unsuccessful “moonshots.” Too many questionable deals, including potentially overpaying for Snap, are a big question mark.
Licensing Fee to Apple: Bernstein’s analyst A.M. Sacconaghi Jr. recently said Google is paying $3 billion to Apple Inc. (NASDAQ:AAPL) this year to remain the default search engine for iPhones. That’s a big bill to foot, even for Alphabet.
As recently as 2014, Google paid just $1 billion for the honor of being the default search engine. Bernstein states this likely accounts for 5% of Apple’s overall profits. Google would prefer not to pay, but with an estimated half of its search revenues coming from Apple products, the downside of abandoning payments could be steep.
Obviously this relationship has worked well for both parties in the past, but Apple may be getting the upper hand now.
Technicals Fading: I concur with InvestorPlace contributor Chris Tyler, who suggests that Alphabet’s chart is losing steam. He suggests buying put spreads to take advantage of the declining technical situation.
This is based on the idea that GOOGL stock has now hit $1,000/share on two occasions, and failed to make new highs. Traders gravitate toward such round numbers, two aborted rallies at such a distinctive level diminish enthusiasm for the stock. Throw in a nasty tech selloff last week, and the fact Alphabet still trails the market even after Monday’s rebound rally is disconcerting.
It all adds up to an ugly picture until the next earnings report resets the narrative.
Pros of GOOGL Stock
Earnings Actually Weren’t Bad: While Alphabet traded down sharply following its Q2 report, that might just reflect excessive investor enthusiasm heading into the event rather than actual problems at the company. Traders should still exercise caution, but the earnings report didn’t tear down any major arguments in the bull thesis.
Revenues of $26 billion for the quarter topped estimates by almost $400 million. EPS for the quarter of $5.01 blew away the analyst consensus of $4.49. Perhaps investors are fretting over the EU regulatory fine. However, excluding that, net income grew almost 25% year-over-year.
Controversies Likely Short-Lived: Google is currently under fire on several fronts. The company’s handling of a controversial diversity memo has garnered a great deal of media attention; not all of it positive. However, in the long-run, it is unlikely to affect the company’s image or ability to attract high-quality engineers to a significant degree.
Also, observers are worried that the European Union will continue to crack down on Google. It’s true that Google’s share of search is above 90% in most major European countries. However, search is a heavily network-effect-driven business; the EU is unlikely to be able to force consumers to use competitors. Perhaps the EU can negotiate down Google’s profit margins a bit (making it more of a utility). But the bears dreaming of much worse scenarios will likely be disappointed.
Strong Balance Sheet: GOOGL stock may look pricey at first glance, as it goes for 34 times trailing earnings and 28 times forward estimates. However, it’s significantly less expensive when you factor in the company’s massive cash hoard.
Including the company’s short-term investments, the company has a $95 billion war chest. While the EU did hit Google with a $2.7 billion fine, compared to the company’s treasury, it’s almost a non-event. Even a potentially bad acquisition — such as Snap for $30 billion — would still leave the company with more than half its reserves.
In an industry as fast-evolving as tech, Alphabet’s substantial financial resources serve as a large competitive advantage.
If you like mega-cap tech stocks, you can hardly go wrong with Alphabet. It has a great balance sheet and an excellent growth story, and its problems appear short-term in nature.
That said, even transitory issues can cause short-term traders to punish a company.
GOOGL stock has traded quite poorly since earnings, and that negative trend may become a self-fulfilling cycle for the next few weeks. If you’re chasing quick trading profits, it’s probably best to avoid Alphabet until the next earnings report comes around. And keep an eye on developments with the EU; that’s arguably the biggest issue for the company at this point.
If you’re a long-term bull, there’s no reason to stop.
As of this writing, Ian Bezek did not hold a position in any of the aforementioned securities. You can reach him on Twitter at @irbezek.