Alphabet's TPUs emerge as potential $900 billion chip business

Alphabet is returning to the spotlight after a Bloomberg report indicating growing investor confidence in its internal semiconductor strategy. Interest in the company's tensor processing units (TPUs) is redefining expectations for future revenues and changing market sentiment. Many investors now view the chip program as a potential long-term growth engine, not just a tool used within Google Cloud.

TPUs propel Alphabet with 31% rally in Q4

Alphabet's UPTs are playing a major role in the company's strong fourth-quarter rally. The stock rose 31%, putting Alphabet among the top performers in the S&P 500. Internally, TPUs have supported Google Cloud's growth for years by handling large-scale machine learning tasks. Now, investors believe Alphabet could begin selling these chips to external customers, paving the way for a new long-term revenue stream.

Confidence grew as forecasts anticipated significant external sales. DA Davidson's Gil Luria says TPUs could appeal to companies looking for alternatives to Nvidia, giving Alphabet access to a growing market.

He said Alphabet could capture about 20% of the AI ​​chip market over several years, a business he values ​​at some $900 billion. And even without external chip sales, improved performance within Google Cloud strengthens the company's overall position.

Nvidia, always leading provider of high-end AI hardwarereacted indirectly. A spokesperson recalled CEO Jensen Huang's recent comments, emphasizing that only a handful of teams in the world have the capacity to produce such complex chips. He sees Nvidia's engineering capabilities as a lasting advantage.

Investor interest in Alphabet's chips accelerated throughout the fall. In late October, reports indicated that Alphabet would supply tens of billions of dollars worth of TPUs to Anthropic, causing the stock price to rise more than 6% in two days.

A month later, new reports suggested that Meta was considering a multibillion-dollar investment to access the chips, contributing to further advances in the stock.

Alphabet's chips attract attention as Nvidia's costs rise

TPUs take a different approach than Nvidia's general-purpose chips. Designed as application-specific circuits (ASICs), they focus on performing machine learning tasks with high throughput and low costs.

And while they don't offer the same flexibility as Nvidia hardware, they represent a more affordable option at a time when AI spending is under scrutiny.

Mark Iong of Homestead Advisers points out that Nvidia chips remain expensive and difficult to obtain. In comparison, Alphabet's ASIC design could attract buyers willing to scale their workloads to take advantage of a cheaper alternative.

Nvidia chips are much more expensive and difficult to obtain. But if you can use an ASIC chip, Alphabet is there and dominates that market by a large margin. It won't control the entire market, but it's some of the secret sauce that supports the stock.

Mark Iong

A combination of factors fuels this positive feeling:

• growing demand for more affordable AI hardware;
• Alphabet's ability to develop its TPU program;
• interest from major buyers like Anthropic and Meta;
• limited supply and high costs of Nvidia hardware;
• expanded internal use of TPUs in Google Cloud services.

The company's latest Gemini model has furthered this momentum. Designed to run efficiently on TPUs, Gemini further highlights their central role in Alphabet's hardware ecosystem.

Portfolio managers reduce Alphabet but maintain confidence in AI roadmap

Despite growing expectations, Alphabet's valuation remains a subject of debate. The stock now trades at a price-to-earnings ratio of 27, its highest level since 2021, and above its long-term average. However, it remains less expensive than its main competitors: Apple, Microsoft or Broadcom.

Some investors reduced their exposure during the rally. Allen Bond of Jensen Investment Management reduced his position as the stock rose, while believing that Alphabet still has room for improvement. He considers the company's position to be solid and considers the current valuation reasonable in relation to expectations.

Bond also points out that Alphabet's advances in AI strengthen the likelihood of future UPT revenues, even if adoption takes time. With a lower price than its larger rivals and rapid progress in chip development, it continues to hold Alphabet in a central position.