A look at Alphabet's and Tesla's earnings
It was an ugly day yesterday for the Magnificent Seven...
The tech giants – Alphabet (GOOGL), Amazon (AMZN), Apple (AAPL), Meta Platforms (META), Microsoft (MSFT), Nvidia (NVDA), and Tesla (TSLA) – lost nearly $800 billion in combined market value, as this Bloomberg article reports.
This directly follows Alphabet's and Tesla's earnings reports, which were released after the market close on Wednesday.
So today, let's take a look at their earnings to see what caused this steep sell-off...
1) Alphabet's stock fell 7.1% yesterday despite reporting what appeared to be, at first glance, exceptionally strong second-quarter earnings. (You can view the earnings release here and slide presentation here.)
The company reported $119.8 billion in revenue – up 24% year over year ("YOY"), beating estimates of $117 billion. And operating income grew 30%, even faster than revenues, thanks to operating margin expanding from 32% to 34%.
Google Cloud revenue soared 82% (accelerating from last quarter's 63% jump) to $24.8 billion, crushing estimates of $22.5 billion. And its backlog rose from $460 billion last quarter to $514 billion today.
This segment is also highly profitable, with operating income of $8.8 billion – more than triple the $2.8 billion during the same quarter last year.
So why was the stock down? In a word: capital expenditures ("capex"). It has been exploding thanks to the AI arms race, as this Bloomberg chart shows:
As a result, Alphabet's free cash flow ("FCF") turned negative for the first time in the company's history:
And Alphabet's capex spending shows no signs of slowing down...
CEO Sundar Pichai just increased guidance for 2026 to between $195 billion and $205 billion, up from previous guidance of $180 billion to $190 billion. Worse yet, he didn't describe in any detail how that spending generates revenues, particularly in relation to AI.
This X post by "HedgieMarkets" captures the bear case:
[The] company spent $44.9 billion in capex during a quarter where cloud brought in $24.8 billion. Alphabet raised $49.6 billion in equity and $20.3 billion in bonds in Q2 alone, roughly $70 billion in outside capital in a single quarter to fund AI infrastructure that the business itself can no longer cover from cash flow. A year ago Alphabet was buying back $13 billion in stock per quarter. Now it's issuing stock instead of repurchasing it. That shift is a bigger deal than the revenue beat...
The actual operating business just crossed into negative free cash flow for the first time while doubling its debt. I think this earnings report will age differently than the headline says.
Alphabet's capex spending is breathtakingly huge and, frankly, I have no idea what the right number is for the company. But as I've written many times, I think management is smart to spend however much it takes to win the AI race.
As I discussed in yesterday's e-mail, established companies known as "hyperscalers" – like Alphabet, Meta, Amazon, and Microsoft – can leverage AI to grow their dominant businesses. So I'm willing to give them the benefit of the doubt.
Finally, let's look at Alphabet's current valuation...
The stock closed yesterday at $317.69, and consensus analysts' earnings expectations for this year are $14.26. That gives it a price-to-earnings (P/E) multiple of 22.3 times.
That's roughly the same as the S&P 500 Index's current forward multiple... for a far above average business.
My view today is still the same as it has been for more than seven years: Alphabet is a great stock for conservative, long-term-oriented investors.
2) On the other hand, Tesla reported dreadful second-quarter earnings, and the stock tumbled 14.5% yesterday. (You can view the slide presentation here.)
Tesla's revenues rose 26% YOY, beating expectations. But expenses rose 47%, which caused operating margin to crash to 1.4% – the lowest level in seven years. After peaking at 19.2% in the first quarter of 2022, it has been all downhill:
As a result, Tesla's earnings per share of $0.33 badly missed expectations of $0.51.
Capex rose a staggering 142% to $5.8 billion, which pushed FCF into the red (negative $1.1 billion) for the first time in two years.
When I analyzed the company's first-quarter earnings in my April 24 e-mail, pretty much all of Tesla's financials were trending in the wrong direction – and they've only gotten worse since then.
So why does the stock still trade at an absurd level? At yesterday's close of $319.69, it's trading at 149.4 times this year's consensus estimates (which will surely be coming down after the big miss, raising the P/E multiple even higher).
It's mainly because CEO Elon Musk has millions of cult-like followers, who believe him when he says (on page three of the earnings presentation):
Tesla is in its largest and most exciting period of investment. From here, there remains much hard work as we aim to revolutionize transportation, energy and productivity through our leading real-world AI. Scaling will be non-linear, and we are focused on long-term value creation. We've never been more optimistic about the future.
I would never bet against Musk and his team. They've created enormous value by achieving things that boggle my mind. As I've said before, humanity owes them a debt of gratitude.
But with most of Tesla's fundamentals trending downward and the stock still trading at an extreme valuation, I wouldn't touch it with a 10-foot pole...
In fact, it's now down 31% since I included it on my "Stinky Six" list of stocks to avoid in my October 29 e-mail. (It's now the "Filthy Five" because I removed Hims & Hers Health (HIMS) in my May 26 e-mail, after it crashed 49%.)
It turns out that Tesla's 31% decline is almost the exact average for the Filthy Five – versus an 8% rise in the S&P 500:
Tesla remains firmly on this list of stocks to avoid.
Best regards,
Whitney
P.S. I welcome your feedback – send me an e-mail by clicking here.
P.P.S. I was in three countries yesterday with my parents, sister, aunt, and friend. We started in Budapest, Hungary, where we went to the Citadel overlooking the city. We then drove two hours to Bratislava, the capital of Slovakia (my 89th country!), and toured the castle and old town before driving an hour to Vienna:
