Alphabet is a Buy on the dip, says Roth Capital

Roth Capital Partners analyst Rohit Kulkarni says investors should be picking up Alphabet (Alphabet Stock Quote, Charts, News, Analysts, Financials NASDAQ:GOOGL) on any pullbacks. Kulkarni delivered a report to clients on Monday where he reiterated a “Buy” rating and 12-month target of $126.00 per share, good for a projected return of 14.8 per cent.

Alphabet shares slipped in trading on Monday after news broke on the weekend that Samsung Electronics was considering replacing Google with Microsoft’s search engine Bing to run as the search engine on Samsung devices.

The New York Times reported the news on Sunday, saying the Samsung threat represented “the first potential crack” in Google’s gold-plated search business, which was worth $162 billion in revenue in 2022. 

The Times said Google’s contract with Samsung is currently under negotiation, and some Google workers were told this month that there would be a pitch put together for Samsung, implying that the renewal was less than the sure thing it had been in the past. 

The article alluded to the role the current AI chatbot race between a number of tech companies might play in such contract renewals, as Microsoft’s Bing has become a force within the field and specifically within the search category. Google’s own chatbot, Bard, is currently being integrated into Google’s search engine.

For Kulkarni, the issue is less consequential for Google and Alphabet today than perhaps it would have been ten years ago, since over the past decade Google’s TAC leverage has been growing, making Google’s TAC payments to companies like Apple and Samsung less impactful on the company’s bottom line.

TAC is traffic acquisition costs and it refers to payments made by search engines like Google to companies for traffic and thus for ad dollars. Kulkarni estimates that Google pays about $28-$31 billion in TAC per year, with Apple accounting for over $20 billion per year and Samsung less than $3 billion.

But Google’s TAC as a percentage of revenue has been declining over the past ten years at the same time that Mobile Advertising has increased, Kulkarni pointed out, saying Google’s TAC fell from 22 per cent of revenue in 2013 to 17 per cent in 2022. 

“While any renegotiation with Apple or Samsung might lead to incrementally worse unit economics on Search, our recent analysis of Google’s TAC trends implies that GOOGL has demonstrated TAC leverage on a consolidated basis over the past several years,” Kulkarni wrote.

As to a potential chink in Google’s Search hegemony, Kulkarni said Google is likely to aggressively defend any perceived or fundamental market share loss in its core Search business, while the company has demonstrated recently its interest in reclaiming its AI leadership at the same time.

“We would be tactical buyers amidst incremental weakness in GOOGL shares. At $100/share, we see GOOGL shares trading at 15.5x P/ E (ex-cash) and view the risk/reward as highly asymmetric at such level,” Kulkarni wrote.