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Google (NASDAQ:GOOGL) investors who didn’t fall prey to the pessimistic prognostications back in February 2023 have been rewarded, as CEO Sundar Pichai and his team struggled initially to gain traction in generative AI. Bearish investors were unduly concerned about Google’s ability to defend itself against a reinvigorated Microsoft (MSFT), keen on gaining share in Google’s lucrative search advertising space.
However, Microsoft’s valiant attempt to strike fear in long-term Google investors has not panned out, as GOOGL surged recently took out its June highs. Based on GOOGL’s decisive breakout predicated against a dip-buying opportunity in early July, I assessed that GOOGL is likely on track to recover its early 2022 highs.
Notably, the resilience and wide economic moat of Google’s business models have allowed the Mountain View-headquartered company to potentially catch up on its generative AI efforts. With the proliferation of foundation models, including Meta’s (META) Llama 2 open-source LLM, the value of OpenAI’s GPT-4 is getting increasingly commoditized as Google looks primed to launch its “revolutionary” PaLM2 and Gemini LLMs across its ecosystem. Google’s new LLMs are expected to “enhance product functionality and offer multimodal capabilities.” Moreover, the company’s limited preview of its Search Generative Experience or SGE has garnered “positive user feedback, leading to improved serving efficiency and faster response times.”
As such, I believe it has bolstered investors’ confidence in Google’s ability to improve its generative AI capabilities and continue leading from the front of the pack. Pichai reminded investors in its second quarter, or FQ2 earnings call, that Google’s seven-year leadership as an AI-first company should bolster its “20 years of experience in serving relevant ads.” As such, its AI leadership are expected to improve further Google’s capabilities to improve the relevance and targeting accuracy in its commercial search queries, offering “a strong foundation for optimizing ad placements and formats.”
Coupled with Google’s robust improvement in operating performance in the company’s second-quarter revenue and earnings, it should provide more confidence that the worst is likely over.
As such, the bottoming in GOOGL back in early November 2022 is justified. It suggests that market operators correctly anticipated that Google’s market leadership should provide it substantial firepower to benefit from the ad market recovery.
Moreover, the recovery was broad-based as YouTube, Search, and Google Other (hardware, Play, etc.) saw an inflection in their growth trajectory. Coupled with the continued robust growth factor in Google Cloud (and posting operating profitability), it suggests Google is well-placed to navigate the AI-driven tailwinds, as Google expects its TAM to be expanded. Furthermore, Pichai stressed that Google “has more than 80 AI models that can be translated into deep industry solutions.” As such, it has opened up substantial opportunities to boost Google Cloud’s ability to “[upsell] and [cross-sell] to its installed base.”
As such, I’m not surprised that Pichai elucidated in his earnings commentary that the company has garnered the support of AI startups, as “more than 70% of Gen AI unicorns are Google Cloud customers.” As such, Google seems very well-positioned to continue solidifying its market leadership across its ecosystem.
Despite that, GOOGL is still attractively valued at a forward EBITDA multiple of just 12.3x, slightly below its 10Y average of 12.5x. As such, while GOOGL is much less appealing than its lows in late 2022, I assessed that more buyers could still come on board, considering the fear of getting disrupted by Microsoft would likely dissipate over time.
GOOGL price chart (weekly) (TradingView)
As seen above, I had anticipated a pullback from GOOGL’s June 2023 highs. However, sellers could not force a deeper selloff before dip-buyers returned in early July, likely anticipating a robust earnings release for FQ2.
As such, last week’s breakout was sustained, indicating that GOOGL’s July bottom should provide a critical level of support to continue its recovery and regain its early 2022 highs ($150 zone).
Notwithstanding a possible near-term pullback, even if a false upside breakout follows in the subsequent week, I’m increasingly bullish on GOOGL’s price action, suggesting buyers should add aggressively on possible retracements.
As such, I’m ready to upgrade my thesis on GOOGL.
Rating: Buy (Upgrade from Hold).
Important note: Investors are reminded to do their due diligence and not rely on the information provided as financial advice. Please always apply independent thinking and note that the rating is not intended to time a specific entry/exit at the point of writing unless otherwise specified.
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