Alphabet Inc. (GOOG, GOOGL) reported higher Q1 free cash flow (FCF) results on Thursday, April 24, than last year. However, despite trailing 12-month (TTM) capex spending that surged over 50%, its FCF margins remained high. That makes GOOG stock look cheap here, worth at least 29% more at $211 per share. This article will describe why.

GOOG closed Friday, April 25, at $163.85, up from a recent low of $146.58 on April 8. However, this price is still well off its 3-month high of $207.71 on Feb. 4.

Alphabet's results indicate that the market fears about the company's earnings and free cash flow may have been overblown. Given its historical FCF yield metrics the stock looks cheap. Let's look into that.

Strong Free Cash Flow, Despite Significantly Higher Capex

Alphabet's Q1 revenue was up +12% YoY to $92.234 billion, and its free cash flow came in at $18.953 billion. That FCF was also +12.57% higher than a year ago, as can be seen in the table below.

Moreover, the trailing 12-month (TTM) FCF figure in the table of $74.881 billion was +8.35% higher than the $69.111 billion TTM FCF from a year ago, using Seeking Alpha data.

However, look at these figures more closely. It shows that capex spending has increased significantly in the last 2 quarters. In fact, the Q1 2025 figure was 48% higher at $17.2 billion compared to a year ago at $12.0 billion.

Now the market knew this was happening. The company had made it clear it was spending a good deal more on data centers and AI infrastructure. That was why there were fears that Alphabet's free cash flow and, more specifically, its FCF margins would tumble.

But they haven't. For example, last quarter, the $18.953 billion in FCF represented 21.0% of the $90.234 billion revenue. Last year in Q1 2024, the $16.936 billion FCF was 20.9% of the $80.539 billion in revenue.

In other words, despite a massive increase in capex spending (+48%), Alphabet still squeezed out a higher amount of cash flow (after capex spending) as a proportion of sales. That means its managing its other costs very well.

Moreover, this shows up in the TTM figures. For example, the $74.881 billion in TTM FCF was 20.8% of $359.7 billion in TTM revenue. A year ago, the $69.11 billion in TTM FCF (Seeking Alpha data) was 21.7% of the $318.146 billion in sales. That was despite 52% higher capex spending over the two TTM periods (i.e., $57.7b vs. $37.97b).

As a result, going forward, we can still expect Alphabet to maintain at least a 21% FCF margin. Let's use that to forecast its future FCF and then set a price target.

Projecting FCF and Setting a Price Target

For example, analysts now forecast that Alphabet's 2025 revenue will rise by +10.6% to $387.25 billion (from $350.018 in 2024) and +10.7% to $428.73 billion in 2026.

That means its average run-rate revenue for the next 12 months (NTM) is about $437.5 billion (almost 25% higher than 2024). As a result, applying a 21% FCF margin to this NTM figure allows us to project its future FCF:

  $437.5b NTM revenue x 0.21 FCF margin = $91.875 billion NTM FCF

That is 22.7% higher than its TTM FCF figure in the table above ($74.881 billion). This could lead to a higher stock market valuation.

For example, Alphabet's market cap is $1,954 billion (i.e., almost $2 trillion). So, it TTM FCF represents a FCF yield of 3.83%:

  $74.881b TTM FCF/$1,954 billion mkt cap = 0.0383

As a result, applying this FCF yield metric:

  $91.875b NTM FCF / 0.0383 = $2,399 billion mkt cap

That is +22.8% higher than today's market cap. Moreover, assuming its FCF margin stays flat or improves, it's likely the FCF yield could improve to 3.5%, its historical figure:

 $91.875b / 0.035 = $2,625 mkt cap, or +35.7% higher.

As a result, GOOG stock could be worth between +22.8% and $35.7% more, or about +29.25% more:

  $163.85 price today x 1.2925 = $211.77 per share

One way to play this, by setting a lower buy-in target price, and getting paid to wait for this lower price, is to sell short out-of-the-money puts in nearby expiry periods.

Shorting OTM Puts

For example, GOOG put strike prices in the May 30 expiration period (34 days to expiry or DTE) have high premiums. The $155.00 strike price put has a midpoint premium of $2.78 per put contract.

As a result, a short-seller of the $155.00 strike price puts can make an immediate yield of 1.7935% (i.e., $2.78/$155.00), or almost 1.80%. That is just for a one-month period.

This means that the expected return (ER), even if the account is not assigned to buy shares at $155.00, is 5.38% over the next 3 months ( i.e., 1.7935% x 3). Moreover, given that this put is 5.4% below the trading price (i.e., out-of-the-money), and the delta ratio is low at 26%, there seems to be a lower risk of getting assigned.

As a result, more adventurous investors could use this $2.78 premium to buy in-the-money (ITM) calls at longer expiry periods. If repeated over several months, this could finance a big portion of the call option premiums.

For example, the Oct. 17 call option expiry period ( 174 DTE or almost 6 months from now) shows that the $155.00 call option, which is $8.85 ITM (i.e., $163.85-$155.00), has a midpoint premium of $20.63.

That implies that if GOOG stock rose to the target price discussed above of $211.17 over the next 6 months, this call option could be worth at least $56.77 (i.e., $211.17-$155.00), with a good profit potential:

   $56.77 - $20.63 cost = $36.14 per long call contract

   $36.14 / $20.63 cost = 1.752 = +175.2% ROI

That is much higher than the +29.3% upside of owning the stock alone. Moreover, the investor can reduce this risk by shorting OTM puts. For example, over 6 months, if the investor can repeat the short sale premium income of $2.78 for a 5.4% OTM strike price in one-month DTE periods, the total accumulated income would be over 80% of the call option cost:

  $2.78 x 6 = $16.68 accumulated income

  $16.68 / $20.63 = 80.85% of the total call option premium cost

That would lower the net cost of the long call options to just $3.95, making the breakeven just $158.95. So, if GOOG hits $211.17, the options would have huge profits:

  $211.17 - $155.00 = $56.17 intrinsic value

  Cost = $20.63 - $16.68 = $3.95; ROI = 56.17/$3.95 -1= 13.22x

There are great risks with this kind of play. This includes where the call option expires worthless and GOOG stock falls to a point where the investor has an unrealized capital loss on the short-put plays.

But, these risks seem to be reflected in the stock price. Moreover, Alphabet has shown in its latest results that it can still generate high FCF margins with higher capex spending. That reduces the overall risk going forward.

The bottom line is Alphabet stock (GOOG) looks deeply undervalued here.

On the date of publication, Mark R. Hake, CFA did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.