Why we’re sticking with Alphabet despite an imperfect quarter and more AI spending
Alphabet shares fell Wednesday evening after Google’s parent company reported good-but-not-great second-quarter results. While AI adoption drives revenue growth, it also leads to higher levels of capital expenditure. And that doesn’t look like it’s going to change anytime soon. According to LSEG data, revenue in the second quarter rose 24% year over year to $119.8 billion; this was well above the $116.9 billion expected. Earnings per share were $9.11. That’s well above the $2.89 consensus estimate compiled by LSEG. But the result also included a huge ($99 billion) contribution from equity investments, driven by SpaceX and Anthropic shares. Excluding this gain, Alphabet’s operating earnings appear to be close to $2.85 per share. So the Street probably considers this a miss after all. But operating income came in at $40.77 billion, better than expected, and operating margins improved by 1.6 percentage points from the previous year. Alphabet shares fell more than 3% in the after-hours session. This continues a downward trend that began in mid-May after the stock closed at a record high of $402.62 on May 13. It soared to these heights after strong first-quarter results in late April proved that its AI investments were paying off. But the post-earnings surge in the spring has now evaporated. In the intervening months, the market has become more skeptical about hyperscalers’ increased AI spending, and Alphabet’s recent bond and stock offerings have contributed to this change in attitude. Additionally, the departure of a handful of AI researchers to rivals in June and delays to its new flagship model have raised questions about Alphabet heading into its second-quarter push. GOOGL YTD mountain Alphabet’s stock performance year-to-date. As a result, Alphabet delivered a good quarter on the AI demand side of the equation. But there are enough flaws in the entire report that the stock’s decline in extended trading is no surprise. The market is not in a forgiving mood. For starters, Alphabet’s underlying operating earnings have been underwhelming. Perhaps even more frustrating for investors already worried about high data center spending, the team raised its capital spending outlook for the year. It now expects to spend between $195 billion and $205 billion on capital expenditures in 2026; That figure was in the range of $180 billion to $190 billion offered in April (an increase from its early February forecast). While this latest increase is meant to accelerate the provision of capacity needed to meet demand for the company’s AI offerings, it’s still hard to hear at a time when quarterly free cash flow has turned negative. What’s more, Alphabet executives reaffirmed that capex “will increase significantly in 2027.” Another blemish on the numbers: Google Search revenue fell short of expectations. Sure, this still represents strong year-over-year growth of about 17%, but a miss is a miss. Now consider that this is a shortfall in your most important segment, and it will be difficult to get Wall Street more broadly excited about the results. This is especially true given an ongoing debate about what adding AI to Google Search results means in terms of monetization. This will not be solved by quarters in either case. But on a more positive note, these new AI developments are leading to an increase in Google Search usage, according to CEO Sundar Pichai. Two of these are AI Overviews, which are generated answers that appear at the top of traditional search results, and AI Mode, a feature that users can toggle through the search bar. “Since the global expansion of AI Mode last October, we have surpassed 1 billion monthly active users,” Pichai said. “And just like AI Overviews, AI Mode is driving an increasing increase in search queries overall, and we are now sending billions of clicks to websites every week through AI features in Search.” He later added: “This quarter, we reduced the cost of AI Mode responses to their lowest level since launch, even as we pushed forward more advanced AI capabilities.” Finally, it’s still some way off the $85 billion fundraising effort announced in June. As part of this equity raise, Alphabet said it will launch a $40 billion at-market (ATM) offering program in the third quarter, which will be “primarily used to satisfy tax obligations related to equity grants to employees.” On Wednesday’s call, CFO Anat Ashkenazi said Alphabet “does not plan to return to the equity markets” other than ATM sales. While this may be welcomed, the fact that ATM is only launching this month means there is a large supply of stock waiting to hit the market. This puts a bit of an upward limit. Despite these flaws, Alphabet’s second-quarter results point to traction in the adoption of its AI offerings, and the accumulation of that evidence over time is what’s needed to justify all the spending. The most direct indicator of this traction has been the performance of Google Cloud, which has delivered significant growth in both revenue and operating income. Other positive signs include strong engagement trends through application programming interface (API) usage, both within the Gemini app and on the part of enterprise customers. API tools are how enterprise organizations connect their software stacks to the Gemini model to enhance their capabilities. YouTube advertising was another bright spot; The platform has seen an increase in engagement thanks to the World Cup. Why we have it Alphabet has regained its mojo since the spring of 2025. To help its business, Google Cloud has the respected Gemini family of models and leading custom AI chips known as tensor processing units (TPUs). The currently dominant layers of Google Search, YouTube, and Waymo and Alphabet are a valuable tech play in any portfolio. Competitors: Amazon, Microsoft, and Meta Platforms Weight in our portfolio: 3.03% Last purchase: April 6, 2026 Started: December 29, 2025 We also liked what we heard from Pichai about Alphabet’s AI model strategy, delays in its flagship model, and last week’s reveal of Kimi K3, a highly regarded open-heavy Chinese model. Also on Tuesday, Alphabet released three more specialized models, including one aimed at cybersecurity tasks. Pichai confirmed that Alphabet wants to play with the intent of maximizing innovation at all levels, while also acknowledging the broad-based appeal of “flash” cascading models. “We are seeing tons of demand for our powerful Gemini Flash series as it hits the sweet spot in terms of performance and cost,” Pichai said during his prepared remarks. When asked about playing on the crowded, low-cost end of the market, Pichai was quick to point out that Alphabet wants to be able to offer the best model at a variety of price points. We think this is the right strategy. Alphabet’s biggest advantage in AI is its vertically integrated approach from model to silicon with dedicated tensor processing units (TPUs). Club member Broadcom is co-designing the TPUs with Alphabet. Therefore, it would be wrong to give up pioneering pioneering model innovation. But at the same time, the company’s broad reach and wide range of consumer-focused offerings mean it has a huge opportunity to monetize less advanced models, where much of the research and development spend is already accounted for by the development of more advanced flagship models. Combining both the results and the commentary on the call, we tend to view weakness as a long-term buying opportunity and therefore reiterate our 1 rating and $400 price target. But given the multitude of flaws, including disruptions in Alphabet’s ATM share sales, we see no reason to rush into Thursday. Instead, we recommend waiting for the stock to settle before jumping in. Highlights The Gemini app now has 950 million monthly active users, with daily actives tripling from the previous year. Gemini model APIs are currently processing approximately 22 billion tokens per minute, up from over 16 billion in the previous quarter. Token is the basic unit of data in artificial intelligence computing. The World Cup has been a headwind for YouTube engagement; There were more than 1.7 billion unique viewers watching World Cup-related content on the platform. Growth in Google Cloud increased to 82% year over year. This is above the 63% annual growth seen in the first quarter; This means an acceleration of the 48% growth in the fourth quarter of 2025. Even better, Google Cloud’s backlog is now $514 billion, up from the $460 billion we saw last quarter. Almost 90% of Fortune 100 companies now use Gemini Enterprise, and 90% are also Google Cloud Security users. (Jim Cramer’s Charitable Trust is long GOOGL. See here for a full list of stocks.) 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