By Eric J. Savitz
Google is one of the best businesses ever built. The Alphabet unit controls more than 90% of the global internet search market, which allows the company to sell an astonishing amount of advertising, $238 billion worth in 2023 alone. But the market now fears it could all come unglued by a torrent of new competition from artificial intelligence.
To be sure, it hasn’t happened yet. By one estimate, Google still accounts for 39% of the global ad market. Alphabet is the fifth-largest U.S.-listed company by market value, at $1.7 trillion, trailing only Microsoft, Apple, Nvidia, and Amazon.com.
Long-term investors, meanwhile, have been more than rewarded. Had you invested $1,000 in Google shares at the August 2004 initial public offering, you’d have more than $55,000 today.
But the Alphabet story is finally showing cracks. At a recent $138, shares are flat this year, trailing the 8% gain for the Nasdaq Composite and the 42% rise for digital-advertising rival Meta Platforms. Alphabet trades at about a market multiple, with the lowest forward price-to-earnings among the Magnificent Seven. The issue? Google’s search business, once an unassailable iron fortress, now looks vulnerable. And for that you can thank AI, a technology in which Google, ironically, plays a leading role.
The emergence over the past 15 months of generative AI chatbots like OpenAI’s ChatGPT, Anthropic’s Claude, and Google’s own Gemini (nee Bard) have created new ways for consumers to find data. That’s not to suggest the bots will squash Google the way Google crushed Alta Vista, Excite, and AskJeeves. But Google’s search domination now seems less certain, and that’s creating at least three big issues for Google — not counting Uncle Sam’s push to declare the company an unfair monopolist:
Searchers have choices: The market briefly turned on Alphabet in early 2023 after Microsoft announced plans to use OpenAI’s GPT software to create a new, chatty version of Bing, its 15-year-old search engine that never got much traction. Bing is the clear No. 2 player in search, but it only has 3% market share.
Google responded to the threat of a revived Bing with the launch of its own chatbot — what’s now Gemini — and added a generative AI feature to the standard Google search engine. The result is that the Bing threat seems at least temporarily defanged.
But Google now faces the prospect of an eternal game of chatbot Whac-A-Mole. Here in Silicon Valley, for instance, people can’t stop talking about an AI-powered search engine called Perplexity, which my colleague Tae Kim wrote about earlier this year. Funded by Nvidia, Jeff Bezos, Databricks, Shopify CEO Tobi Lütke, and other tech luminaries, Perplexity has a clean search interface, with an option to pay $20 a month for a supercharged ChatGPT-style natural language experience.
Chatbots aren’t a perfect replacement for Google searches. ChatGPT and Claude were both trained on data sets that ended in 2022 — they lack information about real-time events. They can’t tell you who won the Sixers game or what the weekend weather will be. But that could change — Gemini has current news and sports data — and the utility of chatbots is high enough to replace search for many tasks. It now seems likely that Google is going to lose some query share at the margin. And it’s possible the losses will be material.
The enemy within: Maybe the greatest enemy to Google search comes from the company itself. As consumers shift more searches to Gemini, the pressure will grow on the company to replace lost search ad revenue. The answer could be to add transactional capabilities to Gemini and to take a cut of the resultant purchases. CEO Sundar Pichai has said ads will remain a key part of the search experience while the company experiments with new ad formats inside generative AI searches.
It’s also possible that Google could get traction with its $20-a-month subscription version of Gemini, which provides access to its most advanced AI model. Still, there is a risk that monetizing chatbots will be more difficult than selling ads against search queries.
AI is expensive: Some analysts have estimated that the cost per query for an AI chatbot can be as much as 10 times the cost of a conventional Google search. No doubt those costs will decline over time as volumes increase, but any delta between the two puts more pressure on Alphabet’s margins and amplifies the need for Google to monetize Gemini. Meanwhile, the company has said it will ratchet up capital spending substantially in 2024 as it invests in GPUs, servers, and related infrastructure to handle AI work.
For all the worries, not a single Wall Street analyst calls Alphabet stock a Sell. Of the 66 sell-side analysts who follow Alphabet, roughly 80% still have Buy ratings, according to FactSet. There is growing skepticism, though, especially among those 20% of analysts that rate shares at Hold or the equivalent.
Alphabet shares fell this past week after a bearish note from Melius Research analyst Ben Reitzes. “While Google may have a moat, let us remind you that search isn’t really recurring,” wrote Reitzes, who rates Alphabet at Hold with a $164 price target. “What has been recurring for decades is the reliability of Google’s interface for ad buyers, its reputation for search quality, and its strong brand. But search is not like a subscription to Microsoft 365, Apple Services, or Amazon Prime.”
In short, you can switch to another search engine anytime. And your choices are getting better every day.
Write to Eric J. Savitz at eric.savitz@barrons.com