Is AI hurting Google’s core business? Alphabet’s $500 billion market rout explained

Alphabet, the parent company of Google, has lost around $500 billion in market value after investors reacted sharply to its latest quarterly results, raising fresh questions about the cost of the artificial intelligence (AI) race and its impact on the company’s traditional search advertising business.

Alphabet shares plunged nearly 13 per cent on Thursday, marking the company’s worst-ever single-day decline. Its market capitalisation fell to around $3.46 trillion from approximately $3.97 trillion a day earlier.

The sell-off came after Alphabet reported third-quarter results that missed Wall Street expectations. While the company continued to record strong growth in its cloud business, slower growth in search revenue, a sharp increase in AI-related investments and negative free cash flow unsettled investors.

Is Google’s AI push hurting its search business?

Google’s search engine has traditionally been one of the world’s biggest digital advertising platforms. Businesses pay to display advertisements alongside search results, making the service a major source of revenue for Alphabet.

However, the way people search for information is changing as AI-powered tools become increasingly popular.

Google has introduced AI-generated summaries and AI Mode to provide users with direct answers to their queries instead of requiring them to browse multiple websites.

While these features could help Google retain users and compete with AI chatbots, they also create a challenge for its advertising business.

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When users receive answers directly through AI-generated summaries, they may interact differently with traditional search results and advertisements. Google also faces the challenge of developing advertising formats that work effectively within AI-powered search experiences.

The financial results have added to these concerns.

Google Search and other revenue increased 12 per cent year-on-year to $63.35 billion in the September quarter. While the business continued to grow, the pace was slower than the 17 per cent growth recorded in the previous quarter and 19 per cent in the first quarter.

Google’s advertising revenue, which includes search, YouTube and network advertising, rose to $82 billion. However, it fell short of market expectations by around $1.4 billion.

The slowdown has raised questions about whether Google’s transition towards AI-powered search could affect the economics of its traditional advertising business.

Google executives, however, have argued that AI is generating more search activity rather than weakening the platform.

Chief executive Sundar Pichai said the company’s year-on-year search query growth rate was the highest in five years. He also said AI investments were contributing to growth in overall search activity, including commercial queries.

Why is Wall Street worried about Google’s AI spending?

The other major concern is the amount of money Alphabet is committing to artificial intelligence.

Building and operating AI models requires enormous investments in data centres, specialised computer chips, networking equipment and energy infrastructure.

Alphabet has been increasing its capital expenditure to expand the infrastructure needed to develop and operate AI services.

Its third-quarter free cash flow turned negative at $9.07 billion. This means the company spent more cash on capital investments than it generated after accounting for its operating requirements.

The figure was significantly worse than market expectations, with analysts anticipating that Alphabet would come close to breaking even.

It was also the second consecutive quarter in which the company reported negative free cash flow. In the previous quarter, the figure was negative $5.9 billion.

The pressure is expected to continue as Alphabet plans to increase its investments in AI infrastructure.

Chief financial officer Anat Ashkenazi indicated that capital expenditure would increase significantly in 2027. The company had earlier projected capital expenditure of $195 billion to $205 billion for 2026.

The AI race has pushed major technology companies into a massive infrastructure spending cycle. They are competing to build more powerful models, secure computing capacity and attract businesses willing to pay for AI services.

But investors are increasingly demanding evidence that this spending can translate into sustainable profits.

Google Cloud is growing rapidly. So why are investors worried?

Alphabet’s latest results were not entirely disappointing.

Google Cloud emerged as one of the strongest performers, with revenue more than doubling year-on-year to $30.71 billion in the third quarter.

The 103 per cent growth was driven by demand for AI infrastructure, enterprise AI solutions and cloud computing services.

Google Cloud is increasingly important to Alphabet’s strategy because businesses need computing power, storage and AI tools to develop and deploy their own applications.

The company is also expanding its business in specialised AI chips called Tensor Processing Units (TPUs), which compete with Nvidia’s graphics processing units (GPUs).

These chips are used to train and run AI models. Google is increasingly selling TPU systems to external customers, adding another potential source of revenue.

However, expanding this business also requires substantial upfront investments in hardware and infrastructure. Alphabet must spend money on equipment and inventory before receiving payments from customers, putting additional pressure on cash flow.

Despite the strong cloud performance, growth in this division was not enough to offset concerns about the company’s advertising business and rising investment costs.

Alphabet’s revenue grows, but profits come under pressure

Alphabet reported total revenue of $127.6 billion for the third quarter, a 25 per cent increase from the same period last year. The figure was slightly below analysts’ expectations of $128.2 billion.

Its net income fell 25 per cent to $26.17 billion from $34.98 billion a year earlier.

Reported earnings per share stood at $2.12, while adjusted earnings per share came in at $2.67, below Wall Street’s estimate of $3.02.

Is this a warning for the wider AI industry?

Alphabet’s market rout also reflects a broader shift in how investors are evaluating the AI boom.

For much of the past two years, technology companies have benefited from investor enthusiasm around AI, with markets rewarding announcements of new models, infrastructure investments and partnerships.

But the focus is increasingly moving towards the financial returns from these investments.

Microsoft and Amazon have also outlined substantial spending plans as they expand their AI and cloud businesses. Their latest results have added to the debate over how much technology companies should invest to remain competitive.