Saturday, July 17, 2010

Google Stumbles on Earnings

As promised, below is my take on the Google (GOOG) earnings report and conference call:

Google (GOOG) reported an okay quarter, although the miss on the EPS line is already knocking the stock down in after-hours trading. Revenue growth was solid and ahead of estimates, with growth of 24% from year-ago levels. EPS came in at $6.45, roughly $0.09 shy of estimates. That equates to 20% annual earnings growth.

The tax rate rose from 22% last quarter to 24% this time, which would account for some of the drag on earnings, but it looks like the rest came from an increase in operating expenses. Capital expenditures doubled from last quarter, and headcount rose 50%. I understand that Google management is focused on the long term and making investments as a result. I just feel it could manage its income statement a little better and avoid these types of earnings misses.

International revenues accounted for 52% of the total, slightly lower than last quarter. UK revenue growth was lower, at 8%, and the "rest of world" category grew revenues 26%. The standout was actually the U.S., which showed accelerating revenue growth, going to 26% from 22% last quarter. And forex hedging produced a $79 million benefit to results.

Google reports a bevy of metrics for investors to assess their business, so here they are. Traffic acquisition costs were in line with expectations at 26%. Paid-click growth remained healthy at 15%. Cost per click was mildly disappointing, falling to 4%. AdSense revenue growth also stayed healthy at 24%. Headcount grew by nearly 1,200 people. And free cash flow was $1.61 billion, leaving a whopping $30.1 billion on the balance sheet.

For the life of me, I don't know why Google needs such an enormous cash hoard. It should return some of that to shareholders. To make matters worse, the CFO said management has set up a $3 billion commercial-paper facility for operating capital purposes. Why do you need to issue commercial paper when you're generating $2 billion in cash flow per quarter? And management said there has been no decision on stock buybacks. I also think the company should implement a buyback that would help offset dilution and boost EPS.

Management did say more traditional advertisers are embracing search and that large advertisers are integrating their ad platforms to include search, display and mobile. It also highlighted many improvements to its search index and results and said 160,000 Android devices are being activated daily. So, the trends are moving in the right direction, it's just that innovation continues to move faster than monetization.

The stock is down roughly 4% after hours and will likely struggle tomorrow. Investors want to see earnings estimates moving higher, not flat or, worse, getting trimmed. This issue could keep GOOG in the penalty box for the near term. I am still a long-term investor, but this quarter didn't provide any catalyst to add to positions.

long GOOG


Post a Comment

<< Home