Google has reached a deal in a class-action lawsuit accusing it of making an Orwellian grab of “potentially embarrassing” data from tens of millions of people using the company’s “Incognito mode” and other private browsing, according to a court filing.

The three Californians and two others who sued the Mountain View digital-advertising giant on behalf of themselves and legions of other internet users in 2020 claimed the firm captured the data despite saying it would not.

Google, in a bid last year to get the case thrown out, argued in a court filing that it “never made any such promise.”

The plaintiffs were seeking for themselves and other affected internet users the return of what they claim are billions of dollars in profits Google made from the browsing data, plus unspecified damages of more than $5,000 for each plaintiff and affected user. In December 2022, a judge denied the plaintiffs’ attempt to entitle tens of millions of users to receive damages in the case.

The terms of the settlement, which must be approved by a judge, were not revealed in the joint court filing last week by both sides informing the court about the deal. Two days after the filing, Judge Yvonne Gonzalez Rogers cancelled the trial planned for Jan. 29.

The lawsuit filed in Oakland U.S. District Court alleged that Google’s data practices gave it and its employees “power to learn intimate details about individuals’ lives, interests, and internet usage.” The company, the lawsuit claimed, “knows who your friends are, what your hobbies are, what you like to eat, what movies you watch, where and when you like to shop, what your favorite vacation destinations are, what your favorite color is and even the most intimate and potentially embarrassing things you browse on the internet — regardless of whether you follow Google’s advice to keep your activities ‘private.’”

“Google has made itself an unaccountable trove of information so detailed and expansive that George Orwell could never have dreamed it.”

In August, Gonzalez Rogers issued an order agreeing with the plaintiffs that anyone using Incognito mode in Google’s Chrome browser could reasonably deduce from the opening screen that Google would not take their data. The company’s “Search & Browse Privately” help page — for users of Chrome and other browsers including Safari — said, “you’re in control of what information you share with Google when you search,” the judge noted.

Although Google had represented publicly since mid-2016 that it would not collect user information during purportedly private browsing, Gonzalez Rogers wrote that the firm “did so anyway, collecting, aggregating, and selling plaintiffs’ private browsing data without their consent.”

Even when people used private modes or Incognito in other companies’ browsers, when they visited a website using Google services, the company’s software directed the user’s browser “to send a separate communication to Google,” Gonzalez Rogers wrote in her August order.

Google and the plaintiffs — Chasom Brown, Christopher Castillo and Monique Trujillo of California, William Byatt of Florida and Jeremy Davis of Arkansas — earlier agreed that the class of people using private browsing modes since mid-2016 numbers in the tens of millions, the judge noted in an earlier order.

The plaintiffs claimed that Google linked users’ private browsing history to the user profiles the company builds for targeted advertising. Google denied making those connections, Gonzalez Rogers said.

Evidence submitted by the plaintiffs included internal Google communications stating that Google stores users’ regular and private browsing data in the same logs, uses those “mixed logs” to send users personalized ads, and that even if individual data points are anonymous on their own, that Google could aggregate them to identify specific users with a high probability of accuracy, the judge wrote.

Google in a court filing last year argued that its privacy policy “expressly disclosed” the ways data would be collected and used, and that the plaintiffs agreed to it.

In a statement to this news organization last year, Google said it strongly disputed the lawsuit’s claims. The firm said Incognito in Chrome gave users “the choice to browse the internet without (their) activity being saved to (their) browser or device,” but declined to address the claims that the company could identify users by mixing private and ordinary browsing data.

Gonzalez Rogers in a December 2022 ruling cited evidence introduced by Google indicating users’ awareness of the company’s private-browsing data harvesting varied widely. The judge declined to allow tens of millions of users to be certified as a class for the purpose of receiving any damages payments. But Gonzalez Rogers did certify those users as a class regarding the plaintiffs’ demand for a court order barring Google from “intercepting, tracking, or collecting” data from users’ private browsing.

The joint court filing last week said Google and the plaintiffs reached the deal through mediation, and that they expected to present the settlement agreement for court approval by late February.

Investment thesis

When I wrote my initial thesis about Google (NASDAQ:GOOGL), I was cautious, and that did not age well as the stock outperformed the broader U.S. market since mid-May. A lot happened since then, and today, I want to update my thesis about Google. While I believe that Google lags behind its primary rivals in the cloud and artificial intelligence [AI], its presence in these fields is also substantial. But what is more important is that the company's primary business is growing and experiencing secular tailwinds, which allows it to Improve profitability. The company is well-positioned to continue investing heavily in innovation and expanding its vast ecosystem. Furthermore, my valuation analysis suggests the stock is very attractively valued. All in all, I assigned Google a "Strong Buy" rating.

Recent developments

The latest quarterly earnings were released on October 24, when the company topped consensus estimates. Since earnings went live more than two months ago, I will not waste much of readers' time and will underline that revenue grew by a solid 11% YoY, and the adjusted EPS expanded notably, from $1.06 to $1.55.

The balance sheet is a fortress with a cash position of $120 billion as of the latest reporting date. There is almost no leverage, and the company is in a massive $90 billion net cash position, which gives GOOGL vast room to continue investing heavily in both in-house R&D and strategic acquisitions. That said, the company's strong balance sheet positions the company well to unlock new revenue drivers with the help of acquisitions.

Google has a stellar record of acquisitions, including YouTube, Android, Maps, etc. Bears would argue that past successful reinvestments are not a certain of future success, and I agree with it. However, consistent historical success substantially increases the probability of new economically sound strategic moves. Google has been a true superstar in generating superior returns over the long term, with ROIC consistently above 20% over the last decade. The company's ROIC performance looks stellar compared to its cost of capital. Thus, I am highly convinced of Google's capabilities to reinvest in highly profitable projects.

Fiscal 2023 full-year revenue is projected by consensus at $305.77 billion, which will mean an 8.1% YoY growth. These expectations look conservative enough since, for the first nine months of 2023, Google demonstrated a 7% YoY growth. With the holiday Q4 being historically by far the strongest, I believe that a projected 8.1% YoY revenue growth is doable for the full fiscal year. Apart from the solid revenue dynamic, I like that profitability metrics are improving, with Q2 and Q3 being more vital on a YoY basis from the operating margin perspective. I do not compare Q1 on a YoY basis because Q1 of 2022 mostly did not capture the adverse effects of the rapidly deteriorating macro environment, and Q1 of 2023 included substantial severance costs after massive layoffs in early 2023. That said, the financial performance is improving this year, but still, the operating margin is below 2021 levels and there is still room to improve.

The earnings for the upcoming quarter are scheduled for release on February 1, 2024. Consensus estimates forecast quarterly revenue at $85.13 billion, which indicates a 12% YoY growth. As the revenue growth pace is expected to accelerate, the bottom line is expected to follow. Consensus estimates project a substantial adjusted EPS expansion from $1.05 to $1.61.

I share Wall Street's analyst's positive view of Google's near-term prospects. As Google remains by far the most used search engine in the world and YouTube is the unmatched leader among video streaming platforms, the company's position in digital advertising is intact. According to GOOGL's latest 10-K report, this revenue stream represents 80% of the total, which means that the company's performance is significantly affected by the digital advertising industry. From the advertising industry perspective, Google has solid tailwinds behind its back. Precedence Research expects the digital advertising market to compound at a 9.7% CAGR over the next decade, and Google will likely be the major beneficiary of this growth.

Google's dominance in digital advertising allows the company to benefit from vast pricing power and generate unmatched profitability. This makes the company well-positioned to build up a fortress financial position to be utilized to invest heavily in growth. I am not emphasizing much the latest generative AI update from Google and would prefer to look at how this will unfold in competing against a generative AI star, ChatGPT. I will discuss later in the "Risks to consider" section the fact that Google is lagging behind rivals in cloud computing and AI. Still, the company's presence in the global cloud computing market is notable, and Google will apparently absorb positive secular tailwinds here as well. It is also important to understand that Google has an extensive ecosystem, and users have very high switching costs if they want to change the ecosystem of services they use. That said, Google is willing to add new products and features to its ecosystem, which will highly likely provide synergetic effects.

Substantial profits generated by the company's cash cow, digital advertising, provide the company vast opportunities to invest in various projects across different industries which might unlock new revenue sources for decades. The project that I consider the closest to becoming a big long-term winner for Google is the company's self-driving taxi subsidiary, Waymo. The industry is in its nascent stages, but driverless ride-sharing looks inevitable on the horizon for multiple decades as the shift to cleaner energy emerges. Waymo's strategic partnership with Uber (UBER), the absolute leader in ride-sharing in the U.S., makes the company firmly positioned to absorb the projected 69% industry CAGR for the next decade. Autonomous taxis might sound like something unreal, but Waymo Driver is already available in Metro Phoenix, San Francisco, and Los Angeles. Having a firm pole position in the autonomous ride-sharing industry makes Google well-positioned to eventually become the dominant player in the global ride-sharing industry, expected to hit more than half a trillion USD over the next decade. It is difficult to project the pace of autonomous ride-sharing penetration across the world, but it will be fairly conservative to assume that Waymo will be able to capture 10% of the global ridesharing industry, which will mean an additional $50 billion in revenue per annum over the long run. Given the company's historical P/S ratio of around 6, an additional $50 billion in revenues could potentially add $300 billion to the business's fair value. However, the level of uncertainty is extremely high here, given the nascent stage of Waymo's monetization.

It is important to emphasize that apart from having bright prospects for the top line, the management also prioritizes financial discipline. The company was one of the first big tech companies to start headcount optimization around a year ago. This was painful for employees but beneficial for shareholders as profitability metrics improved. Therefore, I look optimistically at the latest rumor that the company might cut another 30 thousand jobs in 2024, which could highly likely be a solid contribution to the company's profitability boost. This year's 12 thousand job cuts allowed the company to expand its operating margin by more than one percentage point. That said, a potential 30 thousand jobs cut could make the operating margin much closer to the stellar 30% operating margin level.

With such strong revenue growth opportunities together with notable room to Improve profitability via headcount optimization, it is not surprising to me that high-profile investment firms like Needham and Wedbush have put GOOGL in their 2024 top picks lists.

Valuation update

GOOGL rallied by almost 57% over the last 12 months, significantly outperforming the broader U.S. stock market. Seeking Alpha Quant assigns the stock a low "D" valuation grade because its ratios are substantially higher than the sector median. But Google's market positioning is unmatched, and I think it will be more fair to compare Google vs Google, i.e., with historical averages. From that perspective, the stock looks fairly valued because current valuation metrics are close to historical averages across the board.

I want to go ahead with the discounted cash flow [DCF] simulation. I use a 9.3% WACC for discounting, as recommended by valueinvesting.io. This is 70 basis points lower than I did during my previous analysis, which looks fair to me given the expected pivot in the Fed's monetary policy in 2024. Consensus revenue estimates project a moderate 9% CAGR for the next decade, which I consider conservative enough for my calculations given the company's strong positioning in promising industries. I use a 13.9% TTM FCF margin ex-SBC and project a 75 basis points yearly expansion. I consider the FCF margin expansion as fair given historical trends and the management's prioritization of financial discipline.

According to my DCF simulation, the business's fair value is $2 trillion. This is around 16% higher than the current market cap, which means the stock is undervalued. That said, my target price for GOOGL is around $162.

When I conducted a DCF simulation for Google last time in May, the business's fair value was indicated to be around $1.6 trillion. The 20% increase in my fair value estimate occurred due to several positive developments. First, I implemented a 70 basis points softer WACC because, in late 2023, the Fed shared the expectation that three rate cuts would take place in 2024. Second, I used a conservative FY 2022 level FCF margin in May. However, Google's profitability rebounded faster than expected, and this time, I used a TTM FCF margin level, which I consider fair enough. Last but not least, consensus revenue estimates upgraded due to the faster-than-expected recovery in digital advertising. That said, I believe that all the changes I have incorporated into my DCF simulation are sound in light of the improving financial performance and macro environment.

Risks update

The company faces significant antitrust issues given Google's dominant position in digital advertising and search advertising. Google's presence in these industries is overwhelming, and the company faces accusations of using its dominance to stifle competition. For example, just last month, Google lost an antitrust lawsuit filed by Epic Games. Last year, the company was fined over $4 billion for breaching the European antitrust rules. While $4 billion might not be as significant considering the company's hyper-scale, apart from financial losses, Google's reputation also gets hurt as a result of lost antitrust lawsuits.

While I believe that Google is positioned to benefit from secular shifts in cloud computing and AI, it is important to highlight that the company competes with other superstars like Microsoft (MSFT) and Amazon (AMZN) in these fields. And Google lags behind both of its major rivals. AWS is an undisputable global leader in the cloud industry, but Google's Cloud also significantly lags behind Microsoft's Azure, which is in second place. While Google's third place looks intact, it is quite unlikely that it will be possible for the company to close the gap with leaders because both MSFT and AMZN also have vast resources and expertise to continue investing in innovation. I would also like to highlight that when in early February ChatGPT already reached 100 million users, Google's Bard generated errors. This also indicates that in terms of AI Google is behind Microsoft's partner, OpenAI.

Bottom line

To conclude, Google is a "Strong Buy". My valuation analysis suggests that the global digital advertising leader is around 16% undervalued, which I consider a gift. I want to emphasize that a company like Google, with its dominating market positioning and stellar profitability, deserves a substantial premium to its fair value. That said, the 16% upside potential is the most conservative scenario while the stock price might appreciate much higher depending on massive factors like the Fed's monetary policy. The company's strong balance sheet and massive profitability from digital advertising provide vast opportunities to invest heavily in growth and innovation, both via in-house projects and strategic acquisitions. The company's prospects in autonomous ride-sharing look very bright as Waymo has started expanding its presence at a notable pace in 2023.

While not without risks, Alphabet (NASDAQ:GOOGL) should be considered a core tech holding. The stock currently looks undervalued compared to its mega-cap tech peers.

Company Profile

GOOGL owns a variety of products we use every day. Its Google search engine holds a virtual monopoly for search with an estimated over 90% global market share. Google Search generated nearly $162.5 billion in advertising revenue in 2022 and $127.0 billion through the first 9 months of 2023.

Its YouTube video platform, meanwhile, is one of the largest in the world. It generated $29.2 billion in revenue in 2022 and $22.3 billion through the first 9 months of 2023. Unlike other media platforms, it doesn’t have to spend a lot on upfront content costs, instead using a revenue-sharing model with content creators. YouTube Music and Premium surpassed 80 million subscribers as of the last reported numbers in 2022.

The company also serves up ads through its targeted advertising technology via Google Network, which includes AdSense, AdMob, and Google Ad Manager. Through these programs, the company will serve ads to client websites or apps based on their content, geographical location, and other factors. Google Networks generated $32.8 billion in revenue in 2022 and $23.0 billion through the first 9 months of 2023.

Google Cloud is the #3 cloud infrastructure company behind leaders AWS, owned by Amazon (AMZN), and Microsoft (MSFT) Azure. It generated $26.3 billion in revenue in 2022 and $23.9 billion through the first 9 months of 2023.

In addition, GOOGL owns the Android operating system, Gmail, the Chrome web browser, Google Classroom, navigation platforms Maps and Waze, and Google Photos, among others. It also has a hand in hardware with its Pixel smartphone, smart home product line Nest, Chromebook, and streaming device Chromecast.

Finally, it is working on some more pie-in-the-sky projects such as self-driving cars (Waymo), quantum computing (Sycamore), and smart cities (Sidewalk Labs).

Opportunities & Risks

GOOGL has a virtual monopoly in search, which should continue to be a growth engine for the foreseeable future. Its ability to deliver performance-based ads, as opposed to brand ads, is really unmatched by most rivals.

Performance-based ads are bottom of the funnel and tend to be more resilient compared to brand advertising. They have a much more direct and measurable correlation to sales, so companies like to use this type of advertising, especially when there are more concerns around the consumer. Performance advertising has also been getting a boost from the big pushes of Chinese companies like Temu, owned by PDD (PDD), and Shein, which have been trying to draw in U.S. consumers with cheap deals.

Another big opportunity for GOOGL is the monetization of YouTube Short videos. With an estimated 2.7 billion active users, YouTube is already quite large. Previously, Short creators had no options to earn money from producing videos, unlike with YouTube’s long-form videos. Starting in 2023, GOOGL started sharing 45% of ad revenue with creators on its Partner Program. To qualify, creators must have 1,000 followers and 10 million Short views over 90 days. Revenue will be allocated to creators based on their share of Short views.

The goal here is to incentivize creators to produce content for YouTube Shorts to compete with TikTok. Meanwhile, the better the community performs as a whole, the more money creators can earn. It is also worth noting that creators will be allowed to monetize their content when using popular music, which has been a sticking point in the past.

So far, YouTube Shorts appears to be working. In July, the company noted that Short video watchers had risen from 1.5 billion to 2.0 billion in a year. Meanwhile, in October, the company said Shorts averaged 70 billion views a day and that the company was working on closing the monetization gap between long form and short form videos.

Google Cloud is another opportunity for the firm. Cloud continues to be one of its strongest top-line drivers, growing around 26% so far in 2023. It has yet to turn a full-year profit yet, although it is on track to do so this year. It’s a high fixed-cost business and GOOGL is the #3 player, so it continues to need to scale the business. If Google Cloud can continue its momentum, it should be a nice bottom line driver moving forward as well.

One area that GOOGL has heavily invested in is artificial intelligence ("AI") and machine learning ("ML"). It’s looking to use this tech across the company, both with search, cloud computing, and other areas. Some particular areas of focus are translation, computer vision, and natural language processing.

Discussing AI at a Scotiabank Conference last month, CTO of Google Cloud Will Grannis said:

“Our experience is really approaching it from a full stack or a comprehensive approach. And what do I mean by that? The design principle behind Google Cloud's approach to AI is offering a complete AI stack. What does that mean? It means that the research that goes into these novel techniques, it means that the processors, both ours and others in the semiconductors and the chips. The design and the optimization, we spend a lot of time there. But then we also spent a lot of time on the tooling. Machine learning ops is a significant burden. Gen AI ops, a significant burden for any organization. So we also take it upon ourselves to create a platform that allows people to, without even knowing how to code, start their journey in generative AI. But then it also kind of goes up to the top of the stack, like I spoke about before. We want to provide you an always-on collaborator. So even if you're operating in SaaS, like you're in Workspace, and you're like, you know what, like you're a small business. Maybe you started a dog walking business. There's still time for you if that's your aspiration. And the good news is Generative AI is here to help. And what it can do is you can express a desire like, "Hey, I really want to track my clients, but I don't know how to get started." And you can provide what we call Duet AI, that's our always-on AI collaborator. You can provide Duet AI that intent, and it will generate for you a tracking spreadsheet with the typical columns and the typical fields. If you're trying to run a dog-walking business, for example, without you having to think through the structural components or get started.”

While AI is an opportunity for GOOGL it is also a risk. OpenAI's ChatGPT got a lot of buzz in 2023, and rival MSFT made a $10 billion investment into the AI firm and incorporated its tech into its products, including Azure, Microsoft 365, and its search engine Bing. That upped the game and may have rushed GOOGL into an AI race before it wanted to be in one.

The biggest risk from AI likely isn’t MSFT and ChatGPT, but from GOOGL cannibalizing its own revenue. If users can get information they need directly from Google without having to visit websites, it could potentially lead to less clicks on relevant ads. The counter argument is that it could lead to more use of the Google search engine, and that Google could benefit from more impressions while the company could create new forms of ads to benefit from AI answers.

Outside on AI and technology disruption, the macroeconomy is another risk. As a leader in search and video, GOOGL makes the bulk of its money from advertising. As such, the company isn’t immune to a slowdown in ad spending. Unlike in the past where the secular trend could easily outpace any macro weakness, that isn’t necessarily the case anymore.

Meanwhile, while Google Cloud has started to turn profitable, there is no certain that this will continue. You have three huge companies fighting for market share that could be willing to compete on price if necessary. AMZN’s AWS growth and operating margins have both fallen so far this year. Through the first 9 months to the year, its operating margins were 26.2% versus 30.0% last year. Growth so far in 2023, meanwhile, was 11% versus 32% during the same period in 2022. There is no doubt AMZN will try to fight back, and it has shown a willingness to sacrifice some margin to do so in the past.

Regulation is another risk. The company has paid out a number of exact legal settlements recently. It recently agreed to pay $700 million and allow developers to offer direct payments on its Play app. It also settled a $5 billion lawsuit, terms not disclosed, in a privacy lawsuit because it tracked people who were viewing in private modes. Late last year, it reached a $391.5 million settlement with 40 states related to tracking personal data.

The big risk, though, is the current DOJ case against the company that it is a monopoly that illegally used its power to its benefit. A loss could lead to a huge fine, a change in business practices, and a damage to brand reputation. It also would likely be followed by a similar case in Europe. Legal risks are always among the most difficult to quantify.

Valuation

GOOGL currently trades at about 11.5x 2024 EBITDA estimates of $139.9 billion. Stripping out its approximately $4.5 billion in losses on Other bets, the core business is only trading a 11.2x EBITDA.

Based on the current 2025 EBITDA consensus of $158.3 billion, the stock trades at a 10.2x multiple.

Revenue is projected to grow 11.3% in 2024 and 10.9% in 2025.

The company has rebounded well this year, with revenue growth accelerating through the year, up 6% in constant currencies in Q1, 9% in Q2, and 11% last quarter. It also expanded its operating margin to 28% in Q3 from 25% a year ago.

GOOGL currently has a free cash flow yield of about 4.4% based on FCF of $77.5 billion in the last trailing twelve months.

GOOGL is among the cheaper mega-cap tech stocks.

To get to a year-end 2024 fair value, I’d place between a 12-15x multiple of 2025 EBITDA for GOOGL, while assuming it adds about $75 billion in cash to its balance sheet or returns it shareholders through buybacks. That equates to a fair valuation range between $175-207.

Conclusion

When it comes to technology, there is always the risk of disruption. It’s a common theme in tech that new upstarts eventually come along and disrupt incumbents. Starting from scratch gives these upstarts a huge advantage, as legacy incumbents are often weighed down by past designs and infrastructure investments that lead to inefficiencies as technologies shift. However, the fact that GOOGL has been built on its own flexible infrastructure helps protect it. The company also pours money into research and development to potentially “disrupt” itself. We are at the point where this is starting to play out, but GOOGL appears to be well prepared.

GOOGL’s virtual monopoly on search is reason enough to own the stock at current levels. It is one of the largest and most dominant companies in the world. However, the company doesn’t sit on its laurels and continually looks at new products, services, and monetization efforts to drive growth.

Longevity can be the biggest question around tech companies as they mature - it’s one reason why Warren Buffett has tended to avoid the sector. However, GOOGL has built a platform focused on simplicity and flexibility, which should allow it to endure and continue to prosper. At the same time, it continually pumps money into R&D to both drive growth and to help future proof itself.

If you look at the number of products, services, and apps GOOGL offers, it’s actually quite staggering. GOOGL products are really ingrained in our everyday lives and often in our work lives as well. And it is GOOGL’s ability to continually innovate that will really drive growth moving forward.

As such, I consider GOOGL a core, long-term holding. I have a “Buy” rating and $190 price target on the stock.