The lower-than-expected revenue generated by Alphabet’s (NASDAQ:GOOG, GOOGL) YouTube website could be a warning sign regarding its advertising business in general. Meanwhile, the firm continues to face strong challenges on the regulatory front, and it is going to spend a great deal of money on AI going forward. Given all of these points, I advise investors to sell Alphabet stock at this time.
YouTube Miss Could Indicate More Trouble Ahead
YouTube’s Q2 revenue came in at $8.66 billion, slightly below analysts’ average estimate of $8.93 billion. Due to signs that consumer spending is slowing, I believe that the miss could foreshadow weaker revenue growth by YouTube and, more importantly, Alphabet’s core internet search ad business.
There have been multiple signals recently that consumers’ spending growth is decelerating. For example, Visa’s (NYSE:V) CFO stated that “In the U.S., while growth in the high-spend consumer segment remained stable compared to prior quarters, we saw a slight moderation in the lower-spend consumer segment. ” Moreover, Jefferies analyst Sheila Kahyaoglu recently reported that airlines’ results indicated that consumer spending is weakening.
Of course, many companies that advertise a great deal rely on consumer spending for most or all of their revenue. If the growth of consumer spending is meaningfully decelerating, these firms’ profits will probably fall significantly, spurring them to reduce their ad spending. Indeed, it’s well-known that ad and marketing spending is often the first areas that firms cut when their growth slows.
In Q2, Alphabet’s ad revenue accounted for $64.6 billion of the company’s total sales of $84.7 billion. Consequently, a deceleration of the growth of the firm’s ad revenue would probably be quite detrimental to Alphabet stock.
Regulatory Issues Could Lead to Forced Breakup
Last September, Alphabet’s U.S. antitrust trial occurred. The case involved antitrust charges leveled against the conglomerate by the U.S. Justice Department and multiple states. Specifically, the plaintiffs allege that Google unlawfully paid Apple (NASDAQ:AAPL) and other companies in order to incentivize them from enabling its competitors to gain access to hundreds of millions of consumers.
Closing arguments in the case were held in May, and a decision is expected by the end of the year. The judge could theoretically decide that Alphabet, in-line with the government’s request, should be split into separate firms, in-line with a ruling against Microsoft (NASDAQ:MSFT) in a similar case over two decades ago. Although Alphabet would appeal such a ruling, as Microsoft did, such a decision could play havoc with Alphabet stock.
Meanwhile, InvestorPlace contributor Matthew Farley recently pointed out Alphabet is being probed for violating the EU’s new Digital Markets Act. As a result of the EU investigation, the bloc could impose huge fines on Alphabet. It could also seek to split it up. Moreover, since the law seeks to make digital markets “fairer” and more competitive, the EU could force Alphabet to alter its business practices in Europe. Consequently, its top and bottom lines could be meaningfully reduced, causing Alphabet stock to sink sharply.
AI Spending Cash Crunch
Finally, much of the company’s capital expenditures are focused on AI. Spending came in at $13 billion in Q2, up from $12 billion in Q1 and CEO Sundar Pichai indicated that no end is in sight to the huge spending. He said the firm should invest too much in AI rather than too little.
High capital spending is likely to weigh on the firm’s free cash flow for a very long time. I believe many on the Street will shy away from Alphabet stock for the foreseeable future.
On the date of publication, Larry Ramer did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
On the date of publication, the responsible editor did not have (either directly or indirectly) any positions in the securities mentioned in this article.