Stock of the Day - February 10, 2009 - GOOG

Google, Inc. (GOOG)

Google Inc. (GOOG), the search website that helps people find basically any piece of information they want, is currently trading at $360.81.  It is considerably lower than its 52-week high of $602.45, but it is also well above its 52-week low of $247.30.  Google is a huge part of all of our lives, as we use the company’s services multiple times every day.  I believe that the company’s sheer size and our reliance on its services makes the company a solid long-term investment, but the faltering economy makes me hesitant to call it a buy for the short-term. 

Before I talk about Google’s current situation, we must identify how the company makes money.  97% of Google’s revenue comes from selling online ads!  The company makes money when people like you and me click on the ads scattered all over the internet.  So, as you can tell, Google relies almost solely on the ability and the desire for companies to advertise online and the willingness of internet users to click on ads.  This reliance on companies spending money on advertising and consumers being interested in buying products amidst one of the worst recessions in history is what makes me question Google’s upside potential for the near future.

Efficient Frontier (EF), a company that helps marketers run search campaigns on sites like Google, announced that spending on search ads by its biggest corporate customers fell 8% in the 4^th quarter of 2008.  This is the first drop in spending for online advertising that EF has ever recorded!  EF’s smaller search spenders paid even less for advertising last quarter, as its smaller clients cut their online advertising spending by 23%.  What’s worse, the company reported that the number of clicks that ultimately resulted in a sale, a ratio called the conversion rate, also dropped drastically.  If companies are paying Google for every time someone clicks on their ads, they expect that a solid percentage of the people that click on their ads will buy their products.  So, when consumers click on ads and don’t buy anything, it becomes unprofitable for companies to advertise online. 

But, why are people buying fewer products than usual when they click on ads? With this economy, and with people spending less than ever, it is pretty easy to understand why people are spending less online.  Consumers are preserving their cash, and they are looking less and less at online advertisements as a result. So, if 97% of Google’s revenue comes from online advertising, and if fewer people are clicking on ads, and fewer companies have incentive to pay for online advertisements due to lower conversion rates, it becomes clear to see how Google is dealing with some major issues in this economic climate. 

Google actually announced its 4^th quarter results on January 22^nd, and the results were better than expected because of the very low expectations that analysts had for the company.  While the company’s sales rose 18%, the number was considerably lower than the growth experienced in previous quarters.  The company’s 4^th quarter EPS was 1.21, over 60% lower than 2007’s 4^th quarter EPS of 3.79.  Many analysts are expecting earnings and revenue to decline again in the 1^st quarter of 2009. If this does happen, it will be the first time Google has posted a decline in earnings and revenues in two consecutive quarters!

While it is clear that Google is currently struggling due to its reliance on consumer spending and corporate advertising budgets in this recession, the long-term outlook for Google looks very solid. 

Google has a very firm grasp on the U.S. search market, and it is growing in international markets.  In December, 72% of U.S. internet searches were done on Google!  I believe Google will remain the online market leader for many years to come, and it will continue to aggressively expand into global markets.  Another positive that makes Google intriguing for the future is the expected online spending and advertising trends.  According to market research firm IDC, total U.S. internet advertising spending is expected to nearly double from $16.90 billion in 2006 to $31.40 billion in 2011.  In addition, the number of U.S. online shoppers is expected to grow from around 115 million in 2006 to around 200 million in 2012.  These numbers indicate much higher revenue for Google in the future!

Google’s many services and applications, such as Gmail, Google Maps, Google Earth, Google Talk, Google Finance, Google Chrome, Google Check-out, etc., have also increased the company’s customer base and have made the world even more reliant on Google and what it has to offer. 

In the short-term, I think the macro economy will continue to negatively influence Google’s earnings and revenue. The stock price for Google will most likely remain stagnant or be pulled slightly down for a while.  But, when we get out of this recession and companies begin spending on advertising again and consumers start buying stuff online, Google will continue on its path towards domination.

 

Niki Pezeshki

College Trillionaire