In Alphabet's across-the-board earnings miss, one segment stood out above all else: search.
Revenue in the search and other segment grew 12% from a year ago to roughly $63 billion, but came in below estimates for the second straight quarter. At the same time, Google said search query growth on the platform was the strongest it's been in five years.
The gap between usage and revenue within the search giant's flagship business is becoming harder to dismiss as more people turn to artificial intelligence bots and agents, including tools offered by Google. Since the early days of ChatGPT, analysts have predicted that traditional search will get eclipsed by AI, and warned that Google will have to figure out new ways to make money. While search remains a massive business, early signs of a shift are appearing.
"These things are going to be a force," Deepwater Asset Management's Gene Munster told CNBC's "Fast Money" after the earnings report, referring to new AI-powered services. Munster said that if "personalized bots" take off, "that will become for a lot of people the starting point of commerce, which impacts where Google is."
Alphabet executives said foreign exchange was the biggest factor behind the deceleration in search revenue in the period, and said the currency impact would be even greater in the fourth quarter.
The stock plummeted about 10% in extended trading, reflecting the weaker-than-expected earnings report and negative free cash flow of $9 billion for the quarter, three times the estimated deficit. In the second quarter, Alphabet's free cash flow went negative for the first time in its history as a public company, at $5.9 billion.
Google has spent much of the past year telling investors that it needs to pour money into AI infrastructure and services to meet unending demand from consumers and businesses. Google's Gemini model has allowed the company to stay competitive with Anthropic and OpenAI, and its Gemini-powered enterprise services have proven to be a hit with customers.
The company also says that Gemini is strengthening its core digital ads business, as it uses AI to improve its ability to understand user intent and make advertising more relevant.
“We continue to accelerate the deployment of Gemini models across our entire ads infrastructure to boost performance,” Chief Business Officer Philipp Schindler said on the third-quarter earnings call.
The company made what Schindler called its “biggest update to product listing ads in a decade” during the third quarter, adding new AI capabilities.
“Overall, AI is accelerating our ads development and drives the majority of our product launches,” Schindler said.
Advertisers are also rapidly adopting AI tools. In the third quarter, Gemini models helped advertisers generate more than 1.5 billion campaign assets, up more than sevenfold from a year earlier, Schindler said.
But none of that addresses revenue growth for search, which slid from 19% in the first quarter to 17% in the second, before falling to 12% in the third.
Analysts at UBS wrote in a note that the results are "going to bring Search cannibalization fears right back to the forefront." And Mizuho analyst Jordan Klein said the numbers are an issue for search and YouTube.
"This elevates the fear around AI and agentic taking share from Search and YT and hurting their AI monetization narrative," Klein wrote in a note after the earnings report.
Cloud gives Alphabet its AI payoff
Where Alphabet's AI bet is very much paying off is in its cloud business.
Revenue in that division, which is racing to catch up to Amazon Web Services and Microsoft Azure, more than doubled in the quarter to nearly $31 billion. Cloud backlog also reached roughly $560 billion, reflecting enormous contracted demand for AI infrastructure. Management said it expects just more than half of that backlog to be recognized over the next 24 months.
In Microsoft's quarterly earnings report, which also landed after the bell Wednesday, the software maker said Azure revenue increased 48% from a year earlier to $33.2 billion.
Cloud demand is a big reason for Alphabet to keep spending.
The company maintained its full-year 2026 capital expenditure forecast of $195 billion to $205 billion and said spending will increase significantly in 2027. Some of that is for its tensor processing units, or TPUs, which compete with Nvidia's graphics processing units. Alphabet just started selling them to outside customers in the second quarter.
Customer agreements first show up in Google Cloud’s backlog, and the company has to spend money building the systems before it can deliver them and recognize the associated revenue.
“You see cash going out and we’re building up the inventory base,” Alphabet CFO Anat Ashkenazi said on the earnings call. “As we start delivering and billing customers for these TPU systems, then you see cash coming in.”
Still, Google has to contend with concerns about its longtime cash cow. Gil Luria, an analyst at D.A. Davidson, said the fears that existed from 2023 to 2025 about the AI effect appear to finally be showing up in Google's business.
"Investors will now worry that the miss in Search, YouTube and Subscription, leading to a profit miss, are an indication that AI has finally come for Google," Luria wrote in an email. "We would not rush to conclusions based on one quarter, but will definitely need to reassess what the world of agentic commerce means for Google."