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  1. Home
  2. / Investing
  3. / Technology

Google's Revenue Beat and EPS Miss: 6 Key Takeaways

Accounting charges and aggressive hiring weighed on Alphabet's bottom line. But its top-line momentum remained strong.
By ERIC JHONSA
Oct 28, 2019 | 09:03 PM EDT
Stocks quotes in this article: GOOGL, UBER, FIT

Though it's better than it might appear at first glance, Alphabet's (GOOGL) Q3 report has sparked a bit of profit-taking.

On Monday afternoon, the Google parent reported Q3 revenue of $40.5 billion (up 20% annually), topping a FactSet consensus analyst estimate of $40.31 billion. Excluding traffic acquisition costs (TAC - ad revenue-sharing payments to partners such as smartphone OEMs, carriers and publishers), revenue was $33.01 billion (up 22%), topping a $32.83 billion consensus.

GAAP EPS came in at $10.12, well below a $12.32 consensus. However, this has much to do with a $1.53 billion accounting loss that was recorded on equity investments (Alphabet's roughly 5% stake in Uber (UBER) might be the culprit, given Uber's post-IPO performance). EPS was also hurt by a $554 million charge related to a French tax settlement (announced in September) that might not have been factored into all analyst estimates.

As of the time of this article, Alphabet's Class A and Class C shares are both down close to 2% in after-hours trading, after having risen 2% to new highs during regular trading. They're still up about 23% on the year.

Here are some notable takeaways from Alphabet's Q3 report and call.

1. Google's Core Ad Business Had Another Solid Quarter

Google properties revenue, which covers ad sales on Google's websites and apps, grew 19% annual to $28.65 billion, beating a $28.43 billion consensus. Growth improved a bit from the 17.5% clip recorded for Q2. On the call, CFO Ruth Porat noted mobile search ads were the biggest driver behind this growth, followed by YouTube and a still-growing PC search ad business.

Paid ad clicks on Google properties rose 18%, a slowdown from Q2's 28% and Q1's 39%. However, Google's cost per click (CPC, average ad price) fell just 2%, a much smaller decline than Q2's 11% and Q1's 19%. Porat indicated that the main factor behind both of these trends is the lapping of early-2018 YouTube ad changes that boosted paid click growth and pressured CPC.

Separately, CEO Sundar Pichai highlighted the payoff Google is getting from ad solutions that leverage its AI/machine learning investments. He noted that more than 1 million advertisers are now using Google's Responsive Search Ads, which adjust an ad's text based on factors such as search terms and device type, and that more than of all search ad spend now involves the use of Google's AI-powered tools for optimizing advertiser bids for search keywords.

2. Cloud Momentum Helped Drive Strong Non-Advertising Growth

The Google Other segment, which covers a slew of non-advertising businesses, saw revenue grow 39% to $6.43 billion, beating a $6.35 billion consensus. Porat said the Google Cloud unit, -- it covers both the Google Cloud Platform (GCP) and G Suite app subscriptions -- was the biggest contributor to this growth, followed by Google Play transaction revenue.

Within the Google Cloud unit, which was disclosed in July to be on an $8 billion-plus annual revenue run rate, the Google Cloud Platform (GCP) was said to be the main growth driver, with Porat noting GCP is benefiting from strong interest in its BigQuery data warehouse/analytics service. She added G Suite is seeing "ongoing growth" due to revamped pricing as well as paid seat growth.

Hardware sales continued getting a boost from the May launch of Google's relatively cheap Pixel 3a phones. However, Porat cautioned that in the wake of the Pixel 3a launches, Google expects "the seasonality of our hardware business to be moderated somewhat" during the seasonally strong fourth quarter.

3. Aggressive R&D and Sales Hiring Boosted Operating Expenses

On a GAAP basis, R&D spend rose 25% annually to $6.55 billion, sales and marketing spend rose 20% to $4.61 billion and -- thanks in large part to the French tax settlement -- general & administrative (G&A) spend rose 48% to $2.59 billion.

All three growth rates accelerated relative to Q2, with Porat noting that headcount growth was the biggest factor behind the increases in both R&D and sales and marketing spend. She added that the biggest headcount increases involved the Google Cloud segment, due to both technical and sales hiring.

Alphabet ended Q3 with 114,096 employees, up by 6,450 sequentially and 19,724 annually. Porat reiterated that Alphabet expects its 2019 hiring to be similar to its hiring in 2018, when it added 18,661 workers.

4. The Other Bets Segment Is Still Posting Big Losses

Other Bets, which among other things covers Waymo, Google Fiber, the Verily life sciences unit and Alphabet's investment arms, posted an operating loss of $941 million on revenue of $155 million. That compares with a year-ago operating loss of $727 million on revenue of $146 million. The revenue is said to have "primarily" come from Google Fiber and Verily.

5. Stock Buybacks Picked Up

Three months after adding $25 billion to its stock buyback authorization, Alphabet spent $5.7 billion on buybacks, $3.6 billion in Q2 and $2.2 billion in Q3 2018. That helped Alphabet's diluted share count drop by about 5.7 million annually to 698.2 million.

Between its $117 billion net cash balance and the tens of billions in annual free cash flow it's throwing off, Alphabet definitely has headroom to further increase its buyback pace if it wishes.

6. Sundar Pichai Reiterated Google's Interest in 'Ambient Computing'

Earlier today, Fitbit's (FIT) stock soared after multiple reports emerged that Google had offered to buy the struggling smartwatch/fitness band maker. Not surprisingly, Google's management didn't make any direct reference to the reports on the earnings call.

However, during the Q&A session, Pichai reiterated Google's broader interest in " ambient computing" -- the idea of delivering pervasive, AI-powered services when and where they're needed across a variety of devices. And while stating that phones will "continue to be at the center of ambient computing" going forward, he added that Google's smart home and wearables efforts efforts are part of its vision for the concept as well.

TheStreet's Eric Jhonsa previously covered Alphabet's Q3 report through a live blog.

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TAGS: Investing | Technology

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