Q3 earnings miss sends shares down 12%

Cash flow deteriorates on AI spending

Cloud sales surge 103%, beating forecasts

Korean brokerages see long-term appeal

The Google logo. [Reuters]
The Google logo. [Reuters]

Alphabet, Google's parent company, saw its share price tumble more than 12% after third-quarter earnings fell short of market expectations and cash flow deteriorated. Korean brokerages, however, pointed to the cloud business's growth trajectory and the monetization potential of Alphabet's tensor processing units (TPUs), calling the selloff a chance to buy at a discount.

According to Investing.com, Alphabet closed Thursday at $283.82, down 12.6% from the previous session. The single-day wipeout erased roughly $500 billion (669 trillion won) in market capitalization, the second-largest one-day market cap loss in Wall Street history.

The plunge reflected both disappointing earnings and worsening cash flow tied to AI investment. Alphabet's third-quarter sales rose 25% year-on-year to $127.58 billion, coming in below the $128.22 billion consensus compiled by the London Stock Exchange Group (LSEG).

Earnings per share came in at $2.12, well below the market estimate of $3.02, after Alphabet booked unrealized losses on its stakes in SpaceX and Anthropic. Stripping out those losses, adjusted EPS of $2.67 still missed expectations.

Heavy cash outflows from AI investment weighed on sentiment. Capital expenditure for the quarter reached $51.36 billion, more than double the year-earlier figure. Operating cash flow fell 13% over the same period to $42.29 billion. Because capital spending equaled 121.4% of operating cash flow, free cash flow (FCF) came in at negative $9.06 billion — a deficit for the second consecutive quarter.

Kim Seung-hyeok, a researcher at Kiwoom Securities, said working-capital contraction was the main culprit behind FCF coming in worse than expected even as capital expenditure undershot forecasts. Cash outflows included $3.2 billion to build up TPU inventory and $5.2 billion to pay an Android antitrust fine the EU imposed in 2018.

A slowdown in search advertising also stoked fears that AI could erode Google's core business. Third-quarter search sales reached $63.35 billion, up 12% year-on-year but only 0.1% higher than the previous quarter. As AI-powered search usage grows rapidly, the pace at which Alphabet converts that traffic into advertising revenue remains sluggish.

Global investment banks moved quickly to cut their price targets on Alphabet. Bank of America lowered its target from $430 to $380, JPMorgan trimmed its target from $425 to $375, and Citi cut its target from $447 to $375.

The cloud segment, however, delivered a standout quarter. Cloud sales surged 103% year-on-year to $30.71 billion, beating the $29.15 billion consensus by 5.3%. Operating profit from the segment came in at $11.12 billion, topping the $9.75 billion estimate. The outperformance reflected rising enterprise demand for AI infrastructure and the start of commercial sales of Alphabet's proprietary TPU systems.

The growth outlook also looks encouraging. Alphabet's cloud backlog stands at $561 billion, with 55% of that expected to convert into sales within the next 24 months.

Korean brokerages view the share price drop as a medium- to long-term buying opportunity. Analysts argue that investors should focus on the cloud segment's strong growth potential and the competitive edge Alphabet can build through AI, rather than on the near-term cash flow pressure from heavy capital spending.

Kwon Young-bae, a researcher at Mirae Asset Securities, said faster-than-expected cloud growth more than offsets any downward revision to the advertising outlook or increase in research and development costs. "Given the cloud segment's growth that outpaces rivals and the potential to strengthen core business competitiveness through AI, the short-term share price decline should prove a good buying opportunity," Kwon said.

Valuation has also become more attractive. Alphabet's 12-month forward price-to-earnings ratio has fallen to around 20 times, a significant discount from its peak.

Shim Ji-hyeon, a researcher at Shinhan Securities, said the forward PER of around 20 times represents a meaningful discount from the peak and is at an attractive level. "The discount reflects financial concerns around corporate bonds and FCF, but the fact that operating leverage is holding up despite depreciation and rising TPU hardware costs means the share price drop is a long-term opportunity," Shim said.


moon@heraldcorp.com