Google's Notable Investment Risks

Ishfaque is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

The mighty Google (NASDAQ: GOOG) has long been the most dominant Internet firm for a while now. And over time, its footprint has expanded into numerous other areas as well. With Google's stock trading near all-time highs, the stock still has a decent amount of upside.

Before buying into the Google story, the material investment risks should be evaluated carefully. Investors should be well aware of the dark sides of an investment in spite of the low probabilities attached to each of the seven risks listed below.

1. The Secular Shift to Mobile from Desktop

Consumers are increasingly adopting smartphones and tablets to access the internet. As a result, more and more ads are being portrayed on mobile based devices. Google earns a lot less revenue per ad on mobile devices, primarily due to the smaller screen sizes. The company's aggregate paid clicks i.e the number of ads portrayed which was up 24% on year-over-year basis in Q4 2012. However, the price paid per ad or the cost-per-click was down 6%. 

This secular consumer trend towards mobile devices will continue to result in lower prices per ad in the near-to-medium term. However, Google is still in a pretty solid position overall in the mobile arena, as it boasted of a mobile run rate in excess of $8 billion at the end of Q3 2012. And almost certainly at the end of 2012, this run rate has trended higher.  

2. Lower Prices and Increased Competition in Emerging Markets

For most global companies, growth is increasingly coming from overseas markets. As a result, the numbers of search queries on Google are on the rise. However, the price paid per ad in developing and emerging countries across the world is much lower relative to the U.S. and other developed nations.

In addition, the incremental competition coming from major regional competitors like Baidu, Qihoo 360 (NYSE: QIHU) and Yandex, etc., can hurt Google’s position. The loss in market share in many of these rapidly growing countries like China and Russia can hurt Google's top line materially.

To keep up with increased competition stemming from Baidu, Google got into a partnership deal with Qihoo 360 to keep up in China. The Google-Qihoo partnership allows marketers to buy ads using Google's AdWords technology on Qihoo's rapidly growing search engine. However, Google will end up paying the lion's share of revenue generated to Qihoo, which is not a rosy outcome either. 

3. Regulatory Hurdles

Google is a clear-cut monopoly from almost all angles. As a result, it is a prime target for substantial regulatory investigations, lawsuits and other sovereign scrutiny’s in multiple countries. Just recently, a number of Google competitors including Microsoft, Expedia and Yelp (NYSE: YELP) got the FTC involved accusing the company of tilting the search results by favoring the various Google services.

Luckily, Google got off the hook without paying hefty fines, as it complied with the agency's requests. Worth noting, in early 2011, Google paid a $500 million fine for the portrayal of Canadian pharmaceutical ads to Americans, which resulted in medicine sales without prescriptions. In addition, any acquisitions by Google will always be subject to in-depth inquiries by anti-trust agencies as well. 

4. Risks arising from Vertical Search Players

In addition, to direct search competitors like Microsoft and Yahoo. A number of vertical search competitors like Monster, WebMD (NASDAQ: WBMD) and Yelp are increasingly being accessed directly. Many users access these websites directly and not via Google search. In particular, WebMD and Yelp are increasingly becoming popular amongst consumers for health queries and consumer review queries respectively.

The increased traction in other consumer focused internet companies that provide vertical services like healthcare or job portals can take away many users from Google. Also, the rise of mobile-based devices is leading many users to connect directly via mobile apps instead of using Google search. All these competing offerings can eat away at Google's search revenue pie over time.

5. Microsoft and the Search Partnerships

Microsoft’s (NASDAQ: MSFT) Bing is a material threat for Google. In addition to running its own search engine, Microsoft's Bing powers Yahoo's search engine under a search alliance agreement. Also, Microsoft runs the external search capabilities of Facebook's newly launched Graph Search tool.

As a result, Microsoft's Bing powers three powerful platforms and will be a force to reckon with in the future. In particular, Microsoft's partnership with Facebook has a promising future as the social media company has more than a billion users in place.

6. Motorola Division

The motivation behind the $12.5 billion Motorola acquisition was the intellectual property and the build-out of a better mobile computing platform on Android. However, the division continues to operate at a loss as it is still in a restructuring phase, and is eating away at the profits being generated from Google's core business segments.

In Q4 2012, Motorola mobility had losses of $353 million, and losses will likely continue for the next few quarters. Google's ambitions of an enhanced mobile computing platform using Motorola might not come to fruition in the near term. 

7. Downward Pressure on Operating Margin

As Google's size grows over time, the company's operating margin will be spiraling downwards, in part due to the acquisition of Motorola and the continued growth from Google Network Members' websites. Google's operating margin from partner sites and the Motorola business is much lower compared to Google's core business segments. 

In addition, the increased growth in emerging markets and mobile will further put downward pressure on Google's operating margins. 

The Takeaway

Going forward many of Google's competitors will gain market share, and secular trends will impact the company's operating margins. However, these represent small hurdles for the highly innovative company. The company is in pole position to extend its dominance in search, video, and on its Android operating system, and should perform well over time. 

ishfaque has no position in any stocks mentioned. The Motley Fool recommends Google. The Motley Fool owns shares of Google and Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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