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The results raise concerns about the company's position in a market critical to its future. Image Credit: AP

Alphabet Inc. shares tumbled the most in a year on Wednesday after the Google parent reported a smaller than expected profit in cloud computing, raising concerns about its position in a market critical to its future.

As Google’s dominant search business matures, investors are looking to the cloud unit to take the lead on growth. The unit reported operating income of $266 million, missing estimates of $434 million.

Google has long trailed Inc. and Microsoft Corp. in the market for cloud computing, in which companies sell space on their servers and software to enterprise clients.

Google Cloud, which reported a profit for the first time earlier this year, has been attracting business from artificial intelligence start-ups. But its momentum fell short of expectations in the most recent quarter, prompting some concern that the gap between Google and its rivals is widening.

“Cloud computing is a much lumpier business than advertising, and one where Google is facing stiff competition,” said Max Willens, an analyst with Insider Intelligence. “While the traction it has among AI start-ups may bear fruit in the long run, it is not currently helping Google Cloud enough to satisfy investors.”

The company’s shares fell as much as 8.9 per cent to $126.40 in New York, the biggest decline since October 2022. The shares had gained 57 per cent so far this year through Tuesday’s close.

Alphabet President Ruth Porat said in a press interview that the unit’s sales had been affected by some customers’ cost-cutting. Porat is still acting as the company’s chief financial officer while Alphabet searches for her replacement following her promotion.

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Alphabet Q3 results impress

The results marred an otherwise healthy report. Third-quarter sales, excluding partner payouts, were $64 billion, Alphabet said in a filing Tuesday. Analysts had predicted $63 billion, according to data compiled by Bloomberg. Net income was $1.55 per share, compared with Wall Street’s $1.45-per-share estimate.

The company posted $44 billion in search advertising, beating the average analyst projection for $43.2 billion.

The company was pleased with its advertising revenue growth after a period of “historic volatility”, Porat said on an investor call after the results.

Search dominance slipping

The market for search — which Google dominates — is facing new threats from the rise of generative AI chatbots. Those are programmes that answer users’ questions in a more conversational fashion when given a prompt. Companies, including Microsoft, which backs Open AI Inc.’s ChatGPT, are challenging Google’s search lead with the new technology.

The company has raced to weave generative AI technology into its own products, but some in Silicon Valley say the tech giant has been too slow to detect the shift in the market, creating an opening for its rivals.

Porat and Alphabet CEO Sundar Pichai said that they would continue to find ways to operate more efficiently, with Porat noting that the company would maintain a “slower pace of headcount growth”. The goal of those efforts is to free up as much room as possible to invest in opportunities such as artificial intelligence.

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Wall Street analysts are also concerned about Google’s ongoing trial with the US Department of Justice over the alleged abuse of its search market power.

We’ll do everything that is needed to make sure we have the leading AI models and infrastructure in the world, bar none.

- Alphabet CEO Sundar Pichai to investors on a call.

Google’s ongoing trial with the US Department of Justice over the alleged abuse of its search market power is also weighing on Wall Street’s enthusiasm, said Evelyn Mitchell-Wolf, a senior analyst with Insider Intelligence. “Any outcome should influence investor confidence in the longevity of the Google business model.”

How the other units performed

YouTube reported $8 billion in revenue, compared with analysts’ average estimate of $7.8 billion. The unit has been a drag on Alphabet’s performance in recent quarters, but the results indicated that it is benefiting from the broader recovery in digital advertising spending.

Alphabet’s Other Bets — the company’s moon shot unit that includes the self-driving car effort Waymo and the life sciences unit Verily — brought in $297 million in revenue while losing $1.2 billion, in line with analysts’ projections.