Why Alphabet (GOOG) May Soon Join the Cost-Cutting Club

Once seemingly a member of the untouchables, technology stalwart Alphabet (GOOG, GOOGL) received a rude awakening. Recently, activist investor TCI Fund Management sharply criticized management’s direction, urging the company to initiate aggressive cost-cutting measures. Though the idea of hacking off pieces of an enterprise to become profitable remains controversial, for GOOG stock, it just might make sense.

For one thing, other major tech firms have already executed or announced layoffs. Perhaps most notably, a report from the New York Times – among other major publications – revealed that Amazon (AMZN) intends to swing the axe, trimming its white-collar workforce by roughly 10,000 people or about 3% of the e-commerce giant’s total headcount.

Of course, much of the pain stems from the Federal Reserve. Following an unprecedented spike in monetary and fiscal stimulus programs amid the early wave of the COVID-19 pandemic, the central bank now seeks to unwind prior excesses. Throughout this year, the Fed hiked the benchmark interest rate, sending consumer sentiment into the abyss.

So far, Alphabet has been holding strong. Nevertheless, with its big tech peers moving to trim the fat, the future trajectory of GOOG stock may depend on management adjusting to new realities.

According to TCI managing director Christopher Hohn, Alphabet must cut costs and rethink its investments in long-shot endeavors such as Waymo, the tech firm’s self-driving car project. Significantly, a CNN Business report late last month revealed that major automakers have pulled out of similar efforts. Fundamentally, while the underlying science is intriguing, sparking large-scale profitable commercialization may be further out than expected.

Additionally, with the purchasing power of the dollar likely to rise under the Fed’s sustained hawkish policy, there’s never been a more important time to eschew expansion at any cost for sustained profits.

Intriguing Dynamics for GOOG Stock in the Options Market

Over the trailing five days since the close of the Nov. 16 session, GOOG stock gained over 7%, in part due to speculation that Alphabet will give into TCI’s requests. It’s not so much about the activist investor. Rather, the wider erosion in the tech space warrants a more careful and measured approach.

Nevertheless, both GOOG (Class C) and GOOGL (Class A) ranked among shares attracting unusual options activity – with natively downside implications. Though a bit buried to the south of the list, traders targeted seven options contracts, all of them puts. In particular, the most aberrant trade (compared to typical patterns) centered on the $125 puts for GOOGL with an expiration date of Dec. 16, 2022, or 29 days since the placement of the order.

Specifically, volume reached 6,107 contracts against an open interest reading of 713. The bid-ask spread as represented by the midpoint price ($26.17) came out to 1.72%. For the record, GOOGL stock closed at $98.85.

According to the latest data from Barchart.com, the put/call open interest ratio for the Class C GOOG shares is 0.86. Typically, the delineation between bullish and bearish sentiment is 0.70, with figures higher than this threshold indicating that more traders are buying puts than calls.

Interestingly, for the Class A GOOGL shares, the put/call open interest ratio is 0.67, just barely bullish though this sentiment might shift quickly.

Despite the recent drama surrounding Alphabet, Wall Street analysts remain consistently optimistic about the tech enterprise. Three months ago, analysts assigned a consensus rating of “strong buy” for GOOG stock, breaking down to 27 strong buys, three moderate buys and one hold. In the current month, both the rating and the breakdown are exactly the same.

Why Alphabet May Benefit From Possible Cuts

Although reducing overhead costs might seem a plausible path toward sustained profitability, the reality again is that such moves are controversial. According to the Wharton School of the University of Pennsylvania, layoffs might only provide a short-term lift for the target organization. Over the long run, it can be quite damaging, particularly because people represent the best assets of any good organization.

However, Alphabet might be one of the rarer exceptions. As mentioned earlier, other tech firms have initiated significant job cuts. Therefore, maintaining a bloated enterprise while your core competitors lean out may not be a sustainable choice.

Moreover, Alphabet effectively owns the internet. For instance, the company’s Google ecosystem owns 92.37% of the global search engine market share. As everyone knows, if you want to be relevant on the internet, you’ve got to rank on the first page for key Google search queries. This kind of relevance isn’t necessarily tied with the company’s employees but rather the brand.

As well, what the COVID-19 crisis cynically taught us is that if your job can be done in your living room, it can be done abroad. Over time, companies like Alphabet can simply outsource an increasing number of high-demand occupations to developing nations for effectively pennies on the dollar.

After all, the core Google ecosystem is already established. Maintaining it through a lower-cost labor force shouldn’t be that onerous of a transition.

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