Concerns over rising costs & EU fine turns Google bearish

Last week, the world’s leading search engine provider Alphabet (NASDAQ: GOOGL) reported better than anticipated fiscal 2017 second quarter results. However, the stock was battered by speculators due to a $1.353 billion y-o-y decline in the Q2 2017 GAAP net income, compared with last year. We anticipate the stock, which closed at $945.50 yesterday, to decline further due to the facts presented underneath.

The California-based company reported fiscal 2017 second-quarter revenues of $26.010 billion, up 21% from $21.50 billion in the similar period of 2016. Net income in the Q2 2017 declined to $3.524 billion, or $5.01 per share, from $4.877 billion, or $7.0 per share, in Q2 2016. On average, the Street analysts anticipated earnings of $4.83 per share on revenues of $25.6 billion.

The decline in the quarterly income was mainly due to a €2.42 billion ($2.74 billion) fine levied by the European Commission, which is the European Union’s anti-trust regulator. Excluding one-time charges, Q2 earnings were $6.26 billion, or $8.90 per share. The non-GAAP Consensus estimates were $8.25 per share.

Google Developers

The market is not concerned about the fine imposed by the EU regulators on Google. However, analysts are certainly worried about the implications it may have on Google’s business in Europe. Google did not address that concern of analysts.

Google’s ad revenue increased 18.4% to $22.67 billion. Revenue from other Google products, which includes Pixel smartphone, cloud business, and Play Store, increased 42.3% to $3.09 billion. Net loss from other bets or ‘moon shots’ narrowed to $772 million, from $855 million in the same period last year.

Despite the earnings beat, analysts are concerned about the traffic acquisition costs (TAC) – the amount paid to partner websites for carrying ads. TAC increased 28% y-o-y to $5.09 billion in Q2 2017. It was higher than analysts’ estimates of $4.74 billion.

Aggregate paid clicks grew 52% y-o-y and 12% sequentially. In particular, paid clicks on Google websites increased 61% from the previous year and 15% from the last quarter. Aggregate cost-per-click fell 23% compared to last year. Analysts had anticipated the costs to decline 16.4%.

The owner of YouTube stated that costs are rising faster than expenses and the trend would continue in the future as customers shift from desktop to mobile based searches.

The company ended the second-quarter with $15.7 billion in cash and cash equivalents, and about $79 billion in marketable securities. Concerns over rising costs and the impact of EU’s fine on Google’s European business is expected to keep the stock in a downtrend.

The stock is facing resistance at 958. The descending momentum indicator shows a lack of buying support. Additionally, the bearishness is also confirmed by the MACD indicator, which has fallen below the zero line. So, the stock is forecast to decline further.

A put option is the best vehicle available for investment at this point in time. We wish to invest when the stock trades at about $945 in the NASDAQ. An option expiry date around August 9th would be selected for the trade.

---