Google, pardon Alphabet, may be the first tech stock to beat the Q1 earnings curse, in which companies report blowout (non-GAAP) earnings only to see their stock slide in response… or maybe not.
Moments ago Google, which like Facebook makes the bulk of its revenue from advertising, reported Q1 EPS of $13.33, smashing the consensus estimate of $9.30, and above the highest Wall Street forecast of $10.07, however much of this was thanks to Trump tax reform and a sharp drop in the already low tax rate, which was cut in half from 20% in Q1 2017 to just 11% this quarter.
The company reported total revenue of $31.146BN, above the expected $30.31BN and a 26% increase Y/Y and 23.5% in constant currency terms; Ex-TAC, revenue of $24.9BN, also beat expectations of $24.3BN. For some context, the 23.5% year-over-year jump in revenue excluding traffic acquisition costs is the company’s best growth rate since the middle of 2014, when Alphabet’s revenue then was half the size it is now.
Commenting on the 59% growth in paid clicks, a Bloomberg analyst said this “signals how strong the demand for mobile advertising is. These results bode very well for Facebook. Traffic acquisition costs went up but the demand in ads is helping them overcome these increases.”
That may have been sufficient for algos to send the stock surging as much as 3% higher.
However, at this point humans took over and read between the lines, and found several red flags which they used to quickly punish the stock back into submission, the first of which was that the company’s Traffic Acquisition Costs surged from $4.6BN to $6.3BN, or 24% of revenue, including a sharp uptick in the amount paid to distribution partners like Apple. Additionally, the flow through left quite a bit to be desired, as the company’s operating margin dropped sharply from 27% to 22%. This was Google’s worst margin since 2012.
Furthermore, another red sign is that the company also reported Other Income of $3.5BN, of which $3.031BN was a gain on equity securities, meaning that most of the EPS beat was largely due to accounting and tax gimmicks.
Where did this $3BN in other income come from? Alphabet disclosed that according to a new accounting standard it has to change how it accounts for equity security investments, and that all gains and losses, unrealized and realized, on equity security investments are recognized on the income statement. That includes Alphabet’s stakes in startups, like Uber. The gain on equity securities was $3.03 billion
In other news, Alphabet reported free cash flow for the first quarter of $4.34 billion and 1Q capital expenditure of a massive $7.70 billion: CapEx more than tripled up from $2.4 billion to $7.7 billion year-on-year, suggesting that the company will need to invest aggressively to keep the current growth rate. That said, in addition to reflecting spending on hardware, including the Nest division, the Q1 CapEx likely also included Google’s purchase of the Chelsea Market in NYC.
It wasn’t just CapEx however: the company also added a whopping 5,000 employees in the quarter, to 85,050 as of March 31, which according to Bloomberg calculations works out to more than 50 new hires a day in a 90-day quarter.
And so, after initially surging 3.4% after hours on the simplistic read of the top and bottom line beat, the company has since faded virtually all gains as carbon-based traders focused on the negatives in the report, impacting not only GOOGL stock, but the entire Nasdaq, which likewise first jumped after hours, then faded.
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