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A Realistic Look At The Success Of Google’s Investment History
As promised, I am presenting historical justification of the logic
behind my call of absurdity in the drastic drop in share price after
Google announces a redoubled effort in investment and marketing of its
nascent businesses. I went into the logic in detail via our Google Q1
2011 earnings review – Google’s Q1 2011 Review: Part 2 Of My Comments On The Gross Misvaluation of Google. The following pages are excerpted the subscriber forensic analysis (63 pg Google Forensic Valuation, to plug in your own assumptions see Google Valuation Model (pro and institutional).
To begin with, Google apparently realized early on that it could
better realize returns by investing shareholder capital through
acquisitions. It has actually been quite acquisitive, making 88
purchases over the last 13 year. Last year was Google’s most acquisitive
year, ever!
While many of the referenced acquisitions have been to bolster
existing products, several have literally become home runs – rising to
the top of their respective categories and even threatening to go
farther in that hey have the distinct potential to creatively destroy
the status quo of several multi-billion dollar industries. Let’s walk
through a sampling.
Doubleclick + Youtube + Google TV (organically grown)
This combination is probably the closest thing to a direct
replacement for TV as we know it. Even if Google TV does not succeed,
YouTube is currently the most watched video site, by far and Doubleclick
(for monetization, along with adsense style ads) is the 2nd largest
display ad entity. Again, the potential to reconfigure the TV industry.
Google is already seed funding original content and cutting licensing
(streaming rental) deals with the large established studios. The ability
to threaten TV as we know it was purchased for just over $1 billion. A
pretty good investment, no? Would the NY Times parent co., Fox, Disney,
NBC/Universal have considered this a wise purchase?
Admob and Android
For a mere $250 million (plus ongoing support and development costs
and investments), Google now commands the largest global footprint of
mobile phone OS, the fastest global mobile phone OS growth rate, the
largest (by a very, very wide margin) mobile ad presence, and inarguably
the most disruptive force in mobile computing. What tech, media,
telecomm or strategic investment company would NOT by the Android/Admob
combo now for 10xor eve 15x what Google paid for it? Microsoft, Nokia,
Apple, Samsung, LG, RIM, Oracle, IBM, HP, anyone???
The list of strategic acquisitions that have paid off in spades goes
on, as well as the requisite flops that go along with a high volume
strategy.
So, assuming that Google has done a good job at spending its
shareholder’s money and sprouting several billion dollar businesses to
assist in the diversification away from pure web search advertising –
and realizing that last year was Google’s most acquisitive to date, and
realizing that Google is dumping more money into research, marketing,
headcount and acquisitions now than in any time in its existence
(including last year), should you be bullish on the stock? Three or four
more Androids, YouTubes, Admobs and Doubleclicks to disruptively take
over 5 or six more multi-billion dollar industries is a reason to lop
15% off of this stocks price (which currently barely accounts for just
the search engine potential)???
As excerpted from Google’s Q1 2011 Review: Part 2 Of My Comments On The Gross Misvaluation of Google:
For the quarter ended March 31, 2011 Google reported gross revenues (before traffic acquisition costs) of $8.58bn, an YoY increase of 26.6% and QoQ increase of 1.6% while net revenues (after traffic acquisition costs) increased 29.1% YoY and by 2.6% sequentially to $6.54bn. The
YoY growth in gross and net revenues was the highest at least since
2008 demonstrating a increasingly momentum in the growth of Google’s
digital ecosystem. The increase in net revenues (after
TAC) was actually stronger than the increase in gross revenues,
indicating that Google has not only packed in growth but lowered
aggregate top line expenses.
However, despite a strong set of results
the stock took a severe beating and was down c8% as the results were
short of analyst expectations. The market’s reaction to Google’s
numbers clearly reflects the very myopic view of US public
markets wherein a stock is dumped if it fails to beat consensus – even
when this view clearly overlooks the broader picture.
Google’s adjusted earnings came in at $8.08 a share below the $8.17 expected by the markets. However,
a closer look at the results reveals that the perceived shortcoming
was not a result of a revenue miss or margin compression but on account
of Google’s entrepreneurial (and quite applaudable – at least from
this investor’s perspective) endeavor to invest heavily in future
projects. The miss was principally due to higher research and
development expenses as the company continues to invest in new emerging
businesses like Display, Mobile and Enterprise. Research and
development expenses (including stock based compensation expenses) grew
50% YoY to $1.2bn and was 14.3% of gross revenues in Q1 2011 vs. 12.5%
in Q4 and 12.1% in Q1 2O10. Had research and development
expenses at 12.5% of gross revenues, the earnings would have been $8.51
per share, a clear beat to consensus and stock would have seen a
roller coaster ride – despite the fact that future prospects
would have been a fraction of that they are now due to lower investment
in the future. Google has proven that their investments yield superior
returns to that of cash holdings, ex. Youtube, Android, Admob, Google
Voice, Teracent, etc. Instead, the stock was pushed down 8% as the
shorter term players in the market reacted. Players such as sell side
analysts whose employers benefit from the shorter horizon churning of
stocks vs. a longer horizon and outlook, and traders who act on price
movement and not value, were(are) clearly tangled between web of OPEX (ongoing cost for running a product, business, or system) and CAPEX (expenditures creating future benefits).
….
Google continues to be a reckoning force in the online search market commanding almost two-thirds of US search queries – and Google’s influence in its cash cow products is still expanding.
This cash cow allows Google to fund some very innovative, yet risky
ventures without materially risking or crimping excess cash flows. As of
March 2011 Google’s share of core search queries was 65.7% compared
with 65.1% a year ago, as per comScore data. Despite commanding over two
thirds of market share the company continues to hold its ground in
terms of online search queries.
…
Total cost of revenues increased at a slower pace compared with revenue growth positively impacting the margins.
Total cost of revenues excluding stock based compensation expenses
(which includes Traffic Acquisition Costs) grew 19.7% YoY to $2.9bn
(33.7% of gross revenues in Q3 2010 vs. 36.1% in Q1 2010). Traffic
Acquisition Costs grew 19% YoY during the quarter to $2.0bn (or 24.5% of
revenues) compared with $1.7bn in Q1 2010 (or 26.4% of revenues). Cost
per click increased 8% YoY and declined 1% QoQ. Overall, gross margin
improved to 65.8% in Q1 2011 vs. 65.1% in Q4 2010 and 63.8% in Q1 2010.
Sales and marketing expenses
excluding stock based compensation increased 71% YoY to $948m, or 11%
of revenues in Q1 2010 vs. 9.8% in Q4 2010 and 8.2% in Q1 2010 – a
strong sign of heavy promotional investment into new business lines!
General & administrative expenses excluding stock based
compensation increased 42% YoY to $526m, or 6.1% of revenues in Q1 2011
vs. 6.0% in Q4 2010 and 5.5% in Q1 2010. Research and
development excluding stock based compensation grew 58% YoY to $989m
and was at 11.5% of revenues in Q1 2011 vs. 9.8% in Q4 2010 and 9.3% in
Q1 2010 – again, a sign of very strong business investment into new
ventures. Stock based compensation increased to $429m (5.0% of
revenues) from $291m (4.3% of revenues) in Q1 2010 and $396m (4.7% of
revenues) in Q4 2010. This is a mixed blessing. The increase in
compensation needed to ward off competitors poaching of employees is a
structural expense increase – a decided negative. The hiring of new
staff during these tough economic times to help develop and expand new
multi-billion businesses is a decided positive.
Considering all above, this
investor queries, “What would one have a tech company with a
monopolistic cash cow franchise, strong competitors and several
fledgling multi-billion dollar upstart business to do with its excess
earnings? Invest them deeply into new businesses and ventures for
future value creation, or retain them as excess cash to sit on a
balance sheet which already has in excess of $30 billion of
unencumbered cash in it?”
As a reminder to our paying subscribers, on November 2010 we
downgraded the stock to Neutral from our Overweight stance while
maintaining our valuation. Given the market’s reaction to the stock and
the fact that growth was ahead of our expectations, we upgrade the
stock back to Overweight territory. The full, unabridged quarterly
review is available to all paying subscribers here: 
Google Q1 2011 results.
Next up will be a dissection of Apple’s explosive growth. If you have read my mobile computing wars series,
you know that I believe this is a 3 three horse contest and thus far
not much has changed in regards to whom those horses are and who is the
front runner.
- advertisements -
Google is junk. Just follow the cash -- there is almost none. They can only get their numbers up by using accounting shams.
Google would have a lot more credibility if they'd actually charge end-users for stuff. Even if the fee was nominal.
Reggie
Fuking awesome research again, mucho respecto.
Question. When do companies begin to acquire in their corporate life cycles?
I'll help you answer. When they mature (ie. matured dinosaur stage ...pls note next stage, diseased dinosaur).
Googles acquisition spree is 'sign' this spectacular historical corporate riser has peaked and has run out of ideas ...so they're buying them (young dinosaurs).
Next look at your search chart on Google. It says 'peaked', flat as a pancake, run out of juice. That's its core business, its best business, as good as it gets or is ever going to get. Peak search has been reached, next stage is Down Vv.
I also agree with CPL who posted above on cloud computing. Cloud is the exact same systemic mistake IBM made thinking big central mainframes would trounce small puny PC's. Big mistake.
Big technology companies have a terrible habit of putting their dream 'Mega (ego) Project' above consumer centric, personalised software.
Like IBM, Google are fantasising businesses and consumers will flock to their 'Central Command' and worship at the alter of this Mega Project. No they fuking won't actually, they'll spurn the big, slow, inflexible, impersonal public bus and jump in the private, personal/ised, fast and flexible car everytime
Cloud Computing, like IBM mainframes, is a Big Corp centralist strategic error (of ego usually) and is doomed.. i've already got internet bets going on Clouds falling out of the sky and crashing to the ground inside 2 years... fancy a wager?
iCloud further cementing the ecosystem and growing it out. Don't see the short of the decade here.
In fact, I just see margins dropping for Google faster than for Apple.
Wile I love most of Reggie's work, here I must quibble.
All forward valuations, especially in advertising, should take into account the health of stability of the economic activity it is, in essence, piggybacking. And that health is poor. A major economic disruptio or three would drastically reduce return on equity, turning scale efficiencies into scale inefficiencies.
My only source of wonder is why similar skepiticism isn't being applied to, say, AAPL.
Good to see ZHers using their noggin':-)
Google's future value lies in media and mobile computing/cloud computing. With that being said, the ad/economic activity argument holds water. Of course, more money should go into Google's more cost effective ad programs as things get tighter for everyone else. Companies look to cut costs in crimp, not maintain or add to them. Thus, it is quite possible to see Google steal even more traditional ad thunder if budgets get cut back.
As for Apple, that will end up being the short of the decade. Not because it is lacking in management or fundamentals, it is truly kicking ass. It is because, as you have pointed out, Apple followers appear to be devoid of any critical thought and somehow believe the company can rewrite the rules of math, economics, supply/demand and competitive business. When one believes that another can do no wrong, expect wrong to come momentarily.
do you prefer a bit of rough (tarts) to smooth curvy babes Reggie?
Apple is the ultimate tek smoothy with powerful 'wonder' products, faultless software, quality oozing from every design pore and a rich intelligent niche (uber-loyal) following. Everything integrates, it's consumers are wowed and have absolutely no wish to jump into some rough rag bag alternative
Google is 'tart of all trades, master of none' (except Search) with a mongrel customer base who have not the remotest idea what Goo as a brand stands for because they've never been 'Wowed' by any of their products. Like search Goo products just do a job, much like a doormat
If you think this mongrel will tough it out better than a top pedigree like Apple and be more street smart in the economic hurricane ahead i think your Gooey business will come unstuck faster than the smooth aerodynamic envelope piercing Apple business model
(Incidentally) McDonalds turned away 95% of job applicants recently. A stark contrast to some crone on CNBC today saying there's a shortage of hi-tek staff (you know, Apple customer types). 'Pure coincidence' of course he then went on to plug what a "wonderful place Google is to work" and all the "benefits" they offered. Presumably benefits and perks are there to replace an inspirational brand, product range and vision to shape the future
Google having hiring problems are they? Sounds like it. Smacks a bit of desperation when Goo can't get tek staff without plugs on CNBC?? Maybe Apple has an Ap for that Reggie!
Cling on by your fingernails Reg, i'll be sure to come over and wipe the sweat from your brow in the months ahead
Google having hiring problems are they?
With 75,000 applications per week, and nearly all top CS grads turned away from Google -- pretty hard to imagine that Google has any hiring problems.
so the crone plugging away Google as a place to work on CNBC today was what?
...a purely random job search! ..he wasn't paid-per-click on CNBC referrals then! ..it was a free plug-an-play for Googles job 'benefits' and 'perks' right? ...he gushed about Goo for free (was he a rogue job-plugging Android Ap then?)
presumably the weekly CNBC documentaries on Google that show the bosses saying its a great place to work, CNBC saying the complex is a great place to work and happy staff saying what a fab place Google is to work is not (quite) enough ...we now have crones randomly popping up during the business day on CNBC plugging what a wonderful place Google is to work too
...no you're absolutely right mate, i'm getting all the wrong messages here multiple times a day by purely random repetitive messaging... Googles got no hiring problems whatsoever, the 24/7 hiring plugs on CNBC just proves how happy they actually are with their hiring (non) issue
" Last year was Google’s most acquisitive year, ever!"
Big deal, sounds like microsoft. If you don't have the people to do it yourself, buy someone who can.
LOL
Thanks Reggie! as always a BANG! UP!! job! who says outsourcing to India doesnt work!
These days, it's Sony. LOL.
In the Android model the Android autoroute is sold dirt cheap to OEMs like Samsung. Then the OEM sells its hard ware at give away prices to get MS. So there is a lot of free underpriced activity in the Android pipeline...in the hope of generating dominant position. Google is playing for making a APPS platform to rival Apple's head on. Margin squeeze will be what its all about in the end. Will Google apps pay for hardware low prices/margins...time will tell! But Apple is in a true roll with its Ipad/i-phone working off same soft ware...and selling hardware at full priced basis. Conclusion : Integrated, seamless hi-tech vs cheap, dominant OS autoroute and hybrid, penetration priced hardware...mirror, mirror on the wall who is the prettiest of them all?
I'm mystified on how such a large company with it's sole source of revenue is adsense actually makes money. I keep waiting for the shoe to drop on google where the dirty word of "channel stuffing" and "debt shuffling" pops up.
I suppose it's selling android OS and the android app store though. Can't see how the margin in an OS for a gadget with a 6 month long life span is though. The whole thing reminds me of the Palm OS model.
if all you see is adsense then you really need to do some research into what they have planned.
I mainly see a place that acts as a dot.com clearing house.
Step one: build a company with no revenue base
Step two: Sell to google.
Step three: Profit.
All the revenue streams are in part by proxy of adsense right now...youtube, gmail, picassa....i suppose they are breaking in with Google Voice to the telecom/VOIP area.
The appliances are semi-useful, but companies like F1 and Radware do a better job of producing search/protect/distribute web content. The RDIMS aspect isn't even a secondary thought on that, Hummingbird does a better/cheaper job of it.
the cloud concepts floating around are completely useless and only looks like a dead end. Amazon is showing how fucked a situation can get.
In as much as I like the Google services, as a company, they are very capable of developing ratholes to throw money down.
That's a mild way of putting it. Sprint has just incorporated Google Voice as an option in ALL of thier numbers, without the need to pay a porting fee. Two more major carriers and its a wrap in the US. Imagine the global potential, and once you use Google Voice there is a very strong chance you will be using other Google cloud services. It's too convenient not to. Google Voice capabilities run circles around what every major carrier offers, and VOIP is now ready for Android 2.3+ and higher. That means the ability to circumvent all carriers' voice systems entirely!
Yeah, it will be called "convenience killed the cat" or something like that, looking back at our era.
That is great for Google, but how does it impact their bottom line. How Google generates huge profits off of essentially free VOIP is still opaque to me. Google has a lot of great services but it seems the lion's share of revenue all goes back to ad sense. It would be nice to see a hint of how they are going to make a profit off of all those essentially free services, except through adsense.
Google Voice charges for long distance. They charge a fraction of the cost telcos charge because their cost structure is so much lower. They can charge less and get higher margins on large volume. The same goes for much of the other cloud services. Google Docs successfully competes with MSFT in Exchange installations. Search for the flap over LA county...
Google Docs "competes" with Exchange/Office????? WTF is this, amateur hour on Zerohedge???
Seriously....
...on an all IP 4G network such as Clearwire's. Basically, put an Android opsys in a WiFi phone and just pay the monthly data charge. Google owns 15% of CLWR.
Planned? Does wonders for stocks.