Alphabet Inc. (GOOGL) is finally realizing the types of gains its peers have been garnering after proving itself in the second quarter.
Shares of the Mountain View, California-based Internet giant jumped more than 8% before Friday's opening bell on its earnings report, reversing the reaction seen after Alphabet's earnings day in the first quarter and trending toward the biggest one-day percentage gain for Google's parent in just over four years.
For a company the size of Alphabet, that constitutes tens of billions in market cap gains.
The massive move comes after Alphabet reported second-quarter earnings of $14.21 a share, up 21% from last year's second quarter and well ahead of the Street consensus forecast of $11.30 per share. Revenue climbed 19% to $38.9 billion and topped analyst estimates of $38.15 billion.
"With revenues of $38.9 billion, up 19% versus the second quarter of 2018 and up 22% on a constant currency basis, we're delivering strong growth," said Ruth Porat, chief financial officer of Alphabet and Google. "Our ongoing investments in compute capabilities and engineering talent reflect the compelling opportunities we see across the company."
Porat said total acquisition cost as a percentage of Google Advertising revenues declined one percentage point year over year to 22% and continues to point to a favorable revenue mix shift from network to sites and a decrease in network traffic acquisition cost (TAC) rates.
With the strong quarter, much of Wall Street built further bullishness into forecasts for Alphabet, with FactSet data reflecting widespread price target increases.
"We believe Alphabet's fundamentals are strong and that the company will remain a primary beneficiary of the secular shift to online spending," J.P. Morgan analyst Doug Anmuth said. "We continue to believe there is meaningful runway across search and YouTube as ROI improves and TV dollars shift more online. Google Segment's other businesses such as Cloud, Play, and Hardware have strong momentum, and companies within Other Bets, incl. Waymo, provide option value."
"We believe GOOGL shares remain attractive," Anmuth added, raising his price target to $1,420 from $1,310.
Watching YouTube
One of the keys locked in on by both analysts and management was growth in Alphabet's video platform YouTube.
"We see strong growth in a number of areas," CEO Sundar Pichai told analysts. "Creators continue to build engaged fan bases on YouTube. Channels with more than one million subscribers grew by 75% year over year, thousands of channels have doubled their total monthly revenue by using new monetization products, like Super Chat, Channel Memberships and Merch, and we are building momentum with our subscription services, YouTube Music and YouTube Premium, now available in over 60 countries, up from five markets at the start of 2018."
The advertising revenue available through the platform is extremely attractive, as the platform encourages interaction from nearly 2 billion users per month, only rivaled by Facebook Inc. (FB) in terms of total engagement.
"YouTube was again the second-largest contributor of revenue growth," CFO Porat said. "I'm really pleased with the ongoing momentum that we're seeing here."
With the large installed user base available, the upside potential from continued strength in the segment is hard to understate.
Carrying Cloud Momentum
Perhaps even more intriguing for investors, however, is the growth in Alphabet's cloud business, which contends with both Microsoft Corp. (MSFT) and Amazon.com Inc. (AMZN) . (Alphabet, Amazon and Microsoft all are holdings of Jim Cramer's Action Alerts PLUS charitable trust.)
The segment was noted as the largest driver of Google's "Other Revenue" and continues to build strength as its competitors' growth slows on larger bases.
"Q2 was another strong quarter for Google Cloud, which reached an annual revenue run rate of over $8 billion and continues to grow at a significant pace," CEO Pichai said. "We continue to build our world-class cloud team to help support our customers and expand the business and are looking to triple our sales force over the next few years."
Pichai highlighted a number of key customer wins across industries, including Lowe's (LOW) , HSBC (HSBC) , and Sanofi (SNY) .
Analysts were pleased.
"The Cloud update was a welcomed surprise," RBC Capital Markets analysts Mark Mahaney said. "Although they may be trailing domestic industry leaders AMZN and MSFT, the market continues to grow and this could be another $1T market for Google that is only ~10% penetrated."
With strong hiring initiatives underway, the question of the costs of building out capabilities to the level of its now-larger peers could be problematic for Alphabet. However, analysts have suggested the build-out of a workforce is encouraging as it suggest management's aggressiveness in the cloud space.
"We think commentary on increased second-half investment in S&M and channel conversations indicating [Google Cloud CEO] Tom Kurian has been given almost carte blanche hiring at Google Cloud (with talent demands above what Google HR can throughput, we are told), we suspect that margin de-leverage is likely to grow going forward," Deutsche Bank analyst Lloyd Walmsley told clients. "We think the hiring is well worth it given Cloud disclosures suggest better-than-expected progress here."
Red Flag on Regulation
Of course, with recent record fines levied against Facebook, there remains the overhang of potential regulation tamps on Alphabet's guidance going forward.
Management made clear that it is working strongly to build out its artificial intelligence (AI) capabilities and maintain compliance with data privacy and protection regulations globally.
"On user privacy and control, it's always been a big focus for us in some of the things we recently announced," Pichai told analysts. "There are initiatives underway, for example, like Federated Learning for almost three years. So going forward, I think you'll continue to see us focus on it. It's one of the most important areas we are working on."
Alphabet also noted changes it made to its YouTube policies in order to curtail unwelcome content it has been accused of fostering.
"One significant change we made in Q2 was to update our hate speech policy," Pichai said. "We continue to be vigilant about removing harmful content quickly and at scale. In the first quarter alone, we removed more than eight million videos that violated our community guidelines."
It is encouraging that the removal of content has not hampered revenue or profitability in any way. Still, the hate speech guidelines remain a risk given the pushback from free speech advocates on the actual guidelines for what constitutes hate speech as well as those not satisfied with the steps taken thus far.
Antitrust concerns will also loom large over election season, as many candidates for the Oval Office continue to call for a breakup of Alphabet.
Big Buyback Ahead
In any event, a massive buyback authorization with price targets suggesting significant upside should keep many investors interested in Alphabet amid Friday's red-hot rise.
"We complement these growth drivers with a return of capital. As we indicated in our press release today, our board has authorized the repurchase of up to an additional $25 billion of our Class C capital stock," CFO Porat said. "In conclusion, we are confident about the opportunities ahead and continue to invest thoughtfully for the long term."
The authorization doubles the most recent round from January, indicating significant confidence in the path ahead.
"When complete, Alphabet will have repurchased ~$60B of stock since 2015," J.P. Morgan's Anmuth told clients, noting the company's continued cash flow strength. "We come away from 2Q earnings incrementally positive based on Alphabet's restored revenue trajectory, profit upside, increased disclosures, & stepped-up buyback."
With the market reaction adding such significant value to the company on Friday, there might be a bit more than incremental positive vibes flowing through in coming days, bringing Alphabet increasingly in line with the FAANG gains year to date.
