Google Looks Good from a Valuation Point of View
Andrés is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Many high growth companies trade at extremely elevated valuation ratios during years or even decades. In other cases, paying a high price can be a bad decision even if the company performs extremely well in terms of earnings growth. We may agree however, about the fact that acquiring high growth companies at moderate valuation levels can be very profitable in the long term.
The Google (NASDAQ: GOOG) example shows the importance of valuation very clearly for long term investors, at least considering its performance since 2007: those who bought the stock at the end of 2007 paid a Price / Earnings ratio of 52, with a price of $691 USD and earnings per share (EPS) of $13 USD. Investors who bought and held the stock until now got a meager negative 5% return for the last four years.
The company, however, did quite well: earnings increased by a 124% in the period, but investors weren´t able to capitalize on that growth because the Price / Earnings ratio fell from 52 to 22, which represents a 58% decrease in valuation ratios. In Google´s case from 2007 until now, valuation has been an important factor.
|
|
Google 2007 |
Google 2012 |
Growth |
|
EPS |
13 |
30 |
124% |
|
Price |
691 |
656 |
-5% |
|
P/E |
52 |
22 |
-58% |
Looking forward, the valuation ratios for Google don´t look that bad at all; based on average estimates for earnings per share in 2012 the company is trading at a P/E ratio of 15, which would be a record low by historical standards. In 2008, for example, Google was trading at a P/E ratio of 23. In case you don´t remember, markets were quite depressed and the economy looked pretty bad back there at the end of 2008.
|
Earnings estimate 2012 |
Estimated P/E |
|
|
High |
48.36 |
14 |
|
Average |
42.31 |
15 |
|
Low |
34.30 |
19 |
Google is facing many important challenges in the middle term; margins have declined in the last quarter due to increasing expenses. In addition, the acquisition of Motorola Mobility (NYSE: MMI) will add more pressure to profit margins, investors in the online search giant will probably have to stand some considerable volatility over the following months.
But this is still a high growth business with a dominant position in online advertising; analysts are forecasting on average a growth rate of more than 18% in earnings over the next five years, which seams feasible considering Google´s history.
Everything is possible in such a dynamic sector, Google´s earnings could disappoint even the lowest expectations, and its valuation could also keep dropping below record lows. But there is nothing in the company´s fundamentals that could currently point to such a sad scenario for Google investors.
If Google continues growing as expected, its current valuation looks quite convenient for long term investors. Ignoring this aspect some years ago, when the stock was expensive, turned out to be a mistake. Perhaps it would be wise to take notice of current cheap valuations when considering a long term entry point in Google.
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