AI investment pays off, Google Cloud accelerates its rise

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Alphabet, Google's parent company, posted strong fourth-quarter results, with both its cloud business and search advertising accelerating growth, proving that its large-scale investments in artificial intelligence are starting to pay off.

Alphabet's earnings report released on Wednesday showed that revenue growth in Google's search business accelerated from 15% in the third quarter to nearly 17%, while the revenue growth rate of Google's cloud business surged by 14 percentage points to 48%. This performance dispelled previous market concerns that AI chatbots might weaken Google's search business.

Based on fourth-quarter revenue, Google's cloud business achieved an annualized revenue of $71 billion, a jump from less than $20 billion in 2021. Even more noteworthy is that as this business achieved rapid growth, its operating profit margin rose from 23.7% in the third quarter to 30%.

Despite the impressive results, Alphabet's stock price still fell by one to two percentage points in after-hours trading. The company announced it would double capital spending this year to $175 billion to $185 billion in order to build more computing power, a figure that already exceeds its projected $164.7 billion cash flow in 2025.

Cloud Business Achieves Scale Profitability

The performance of Google's cloud business demonstrates that it has become a truly viable business. Based on fourth-quarter revenue, its annualized income reached $71 billion, an extraordinary achievement for a business whose revenue was under $20 billion in 2021. By contrast, industry leader Amazon Web Services (AWS) had annualized revenue of $132 billion as of the third quarter.

While a 30% operating profit margin still lags behind larger competitors, Google Cloud has finally proven itself to be a sustainable business. Few companies in the tech industry are able to succeed in both consumer and enterprise markets—Amazon is one of the few, and it looks like Google will become another.

In addition, the growth of the search business should ease the concerns investors had a year or two ago that AI chatbots would undermine Google's search business. Chief Business Officer Philipp Schindler said during an analyst call that AI is helping Google improve ad effectiveness and enabling it to serve ads for more complex search queries than in the past.

Google's search revenue growth accelerated from 15% in the third quarter to nearly 17% in the fourth quarter, demonstrating the positive impact of AI technology on its core business.

Massive Capital Expenditures Raise Cost Concerns

Alphabet stated that this year it will double its capital expenditure to $175 billion to $185 billion to build more computing capacity. This level of spending already exceeds the $164.7 billion in cash flow its business is expected to generate in 2025. The company has already increased its debt, and at this rate, it will need to borrow more in the future. The company has cut back on stock repurchases.

In addition to capital expenditures, Alphabet also needs to cover AI-related operating expenses. The company lists the costs of its DeepMind AI research division separately, with expenses in the fourth quarter more than doubling to $5.9 billion. Alphabet said this project mainly involves AI costs shared across business units.

As of December 31 last year, Alphabet's total number of employees reached 190,820, surpassing the peak before large-scale layoffs at the beginning of 2023.

Although Alphabet's overall situation currently looks bright, especially compared to other companies, investors are currently uneasy about the costs of AI technologies. The sharp sell-off of software stocks this week is partly due to concerns that AI may erode existing software businesses, while worries about the cost of AI development are also weighing on the market.

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