Author: Chasing Wind Trading Desk
Google parent company Alphabet delivered an impressive second-quarter report, with cloud business growth far exceeding expectations, and overall revenue and earnings per share significantly beating Wall Street estimates. However, the stock still fell sharply, reflecting market concerns about deep-seated issues such as a sharp increase in capital expenditure, negative free cash flow, and equity dilution.
According to a research report from Bank of America Securities, Alphabet's second-quarter net revenue reached $103.6 billion, higher than the market expectation of $101.1 billion. Google Cloud revenue grew 82% year-over-year, far exceeding the market expectation of 65%, with particularly strong acceleration momentum.
At the same time, the company raised its fiscal 2026 capital expenditure guidance by $15 billion to a range of $195 billion to $205 billion, a significant increase from the previous guidance of $180 billion to $190 billion. This news became a core variable suppressing the stock price.
Bank of America Securities analyst Justin Post maintained a "Buy" rating on Alphabet with a target price of $430. He pointed out that despite the negative market reaction to the capital expenditure increase, the cloud business's backlog orders, customer overconsumption, and continued expansion of cloud profit margins all indicate that incremental investment is directly translating into revenue growth.
In pre-market trading, Google's stock fell nearly 5%.
Cloud business explosive growth becomes the biggest highlight of the quarter
Google Cloud achieved accelerated growth that caught the market's attention this quarter.
Second-quarter cloud revenue reached $24.8 billion, up 82% year-over-year, not only significantly surpassing the market expectation of 65% but also accelerating by 19 percentage points from the first quarter's 63% growth. Cloud operating margin rose to 35.6%, also higher than the market expectation of 31.3%, up 270 basis points from the previous quarter and nearly 15 percentage points from the same period last year.
The Bank of America Securities report pointed out that behind the strong performance of the cloud business, multiple data points support its sustainability: second-quarter cloud backlog orders increased 11% quarter-over-quarter and approximately 375% year-over-year, reaching $514 billion; actual customer consumption exceeded contract commitments by more than 50%, up from 45% in the first quarter; new customer acquisition speed was more than double that of the same period last year.
Additionally, this quarter included new revenue from selling TPU chips to external customers. Management stated that even excluding TPU sales, cloud business growth would still "accelerate significantly."
Google's model API currently processes approximately 22 billion tokens per minute, a significant increase from 16 billion last quarter; the AI agent development platform AntiGravity has over 2.4 million weekly active users. Bank of America Securities expects that Google Cloud revenue growth will further accelerate to 93% in the third quarter.
Search and overall performance: Beating expectations but with uneven highlights
Overall, Alphabet's second-quarter GAAP earnings per share were $9.11, significantly beating the market expectation of $2.90. However, it should be noted that this includes approximately $98 billion in other income, mainly from the revaluation gain on Anthropic, while the market had expected only $0.8 billion. Excluding this one-time factor, core business performance is more realistic.
Search revenue was $63.3 billion, up 17% year-over-year, roughly in line with market expectations, but underperforming compared to the previous quarter's beat, which the market sees as a temporary "cooling" signal for the recent AI upside narrative.
Management also warned that the search business will face higher year-over-year base pressure in the third quarter.
YouTube advertising revenue was $11.1 billion, up 13% year-over-year, exceeding market expectations of $10.8 billion, partly benefiting from brand advertising demand driven by the FIFA World Cup. In terms of operating margin, GAAP operating margin in the second quarter was 39.3%, below the market expectation of 40.3%, mainly dragged by G&A expense overruns—actual G&A spending was $6.46 billion, far above the market expectation of $5.1 billion. Management attributed this to several legal and other matters but did not disclose details.
Capital Expenditure Surge and Negative Free Cash Flow: The Market's Biggest Concern
The market's negative reaction to this quarter's results is primarily centered on the significant upward revision in capital expenditure and its impact on cash flow.
Alphabet raised its fiscal 2026 capital expenditure guidance to $195 billion to $205 billion, an increase of about 8% from the previous guidance and well above the market expectation of $187 billion.Bank of America Securities expects full-year 2026 free cash flow to be negative $16 billion, and also negative in 2027.
Meanwhile, Alphabet did not conduct any share repurchases in the second quarter, and free cash flow was negative $5.9 billion. After completing a $45 billion hybrid capital financing in June this year, the company plans to launch a $40 billion at-the-market (ATM) equity offering program in the third quarter. Bank of America Securities expects this to increase diluted shares by about 1% sequentially in the second half of the year.
Bank of America Securities analyst Justin Post noted that although the above factors pose short-term pressure, the increase in capital expenditure is directly linked to the rapid growth of cloud business backlog orders—the $514 billion backlog far exceeds the $15 billion incremental capital expenditure, meaning the logic of "more capacity equals more sales" still holds. He maintained his 2026 capital expenditure forecast of about $200 billion and raised his 2027 capital expenditure forecast to about $300 billion, a year-over-year increase of about 51%.
Valuation and Rating: Current Price Still Attractive
Bank of America Securities maintains a "Buy" rating on Alphabet and a $430 price target, based on 2027 adjusted GAAP earnings per share of $15.55 multiplied by 27 times P/E, plus $11 per share in cash.
The report raised its 2026 net revenue forecast by 2% to $433.6 billion and earnings per share by 4% to $20.58; 2027 net revenue was raised by 3% to $552.8 billion and earnings per share by 2% to $15.01.
At the after-hours price level of about $332, Alphabet's P/E ratio based on 2027 GAAP earnings per share is about 22 times, in line with the company's 10-year historical average. However, Bank of America Securities expects 2027 revenue growth to reach 27%, well above the average of 14% from 2023 to 2025.
From a sum-of-the-parts valuation perspective, after excluding assets such as YouTube, cloud business, Waymo, and cash, the implied valuation of Google's core advertising and Play business is only 13 times expected 2026 earnings, lower than the S&P 500's 20 times.
