New Idea: Google (GOOG) Part II

Market Sentiment

As I alluded to in Part I of the GOOG write-up, Google is a company that the market has responded very favorably towards. It has a historical P/E Ratio of 40 at the moment, with a forward looking P/E Ratio (using consensus analyst estimates found on ETRADE) of 24.44. What this means is that, unsurprisingly, the market sees GOOG as a high growth company with a lot of potential. However, when you look at analyst projections, you can’t help but notice a trend in their forward looking earnings estimates:

Q4 2009: 6.42

Q1 2010: 6.36

Q2 2010: 6.25

Q3 2010: 6.61

GOOG earnings projections are relatively static for the coming year. This is coming despite some legitimate new revenue sources that GOOG has been extremely optimistic about. One reason for the static nature of forward looking revenues can be found in an earlier post on the blog. Please refer here for the full text of our analysis, and here for the link demonstrating analyst skepticism of GOOG’s ability to penetrate the hardware market. Essentially, analysts have examined the Nexus One and its potential impact and found themselves unimpressed so far.

But all is not lost when it comes to alternative revenue streams! Taken from their Q3  2009 earnings transcript is the following quote from Google CFO Patrick Pichette (full transcript of the earnings call can be found here) in regards to whether or not mobile search might cannibalize their core desktop/laptop search:

“I think that the most exciting thing about mobile is that even though there may be on the margin some stuff that is kind of overlap, it’s essentially a new space. And because it’s a new space and there has been a lot of research done on this, and there was one, for example, there was one research that I read not long ago where by the end of 2011 or the end of 2012 that the research talks about smart phones surpassing the global PC in sales.

So you end up in a world where like it’s an “and” world rather than an “or” world where you live very differently with your mobile device than the PC.”

An additional useful comment came from Jonathan Rosenberg, Google’s Senior VP of Product Management regarding the difference in mobile advertising versus desktop/laptop advertising:

“I think the other thing we’re seeing is that display seems to work very well on some of these devices and I think that’s because of the level of engagement that a user has when they’re staring at a cell phone and actually seeing a display ad. They tend to notice it more, and unlike when they’re on a desk top machine, they’re less like to click away from it. So there’s much more of a dynamic of forced engagement with display. So I think we’re quite optimistic there about AdSense on the high-end mobile devices.”

Now perhaps I am jumping the gun on Part III of the analysis here, but we can start to see some of the divergence between GOOG executives and analysts. Google is clearly seeing fantastic growth opportunities in the mobile sector in fiscal year 2010, in addition to the core growth they have demonstrated every quarter as they have mastered internet advertising. Now, as stated above, the market is clearly seeing fantastic growth opportunities with their forward looking P/E Ratio over 20, but this profit growth seems tied to GOOG’s ability to continue to perform well with search advertising. In Part III of the analysis, I’ll examine why it is my fundamental belief that GOOG is poised to not only continue the growth they’ve demonstrated with Adsense, but find new markets for Adsense that have the ability to increase GOOG’s profit drastically.