Alphabet (GOOGL) reported disappointing third-quarter results as revenue growth decelerated further, driven by the stronger dollar and economic uncertainty, which is increasing hesitancy in ad spending.
Assuming less uncertainty in the macroeconomic environment, plus the monetisation of YouTube Shorts, we expect advertising revenue growth to return to double-digit levels in 2023. Unlike advertising, the cloud business maintained impressive growth.
After adjusting our model, including lower top-line growth assumptions, we slightly reduce our fair value estimate of Alphabet to US$160 from US$169. The stock is down nearly 7% in afterhours trading and remains attractive.
Total revenue increased only 6% year over year, but 11% excluding the foreign currency headwind. Advertising revenue rose 2.5% from last year, helped by 4.3% growth in search, which was partially offset by disappointing declines in YouTube (1.9%) and network advertising (1.6%). Cloud segment growth was robust (37.6%) as demand for migration to the cloud remains a high priority for firms looking for cost savings.
YouTube Shorts has already reached 1.5 billion monthly active viewers, reducing fears that TikTok is hurting the business. With the strong network effect present on YouTube, the strength of Google search, and the firm’s ad-tech powered measuring capabilities, Google’s ad revenue miss wasn’t significantly due to Apple privacy changes either.
We think expectations of an economic downturn among advertisers is the main culprit. Management mentioned that some advertisers are slowing down their spending on Google’s properties, mainly YouTube. Alphabet also saw some pullback in search ad spending, mainly by financial services companies that provide insurance, loans, mortgages, and cryptocurrency services.
We are assuming that lower ad spending is more widespread, implied by the third-quarter weakness in Google’s network ad revenue, which we view as a demand indicator for ad spending on non-Google properties.
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