Should You Buy Google Now?

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

Google's (NASDAQ: GOOG) has crossed the October 2012 high of $767.65 per share. The company closed at $785.37 per share on Friday, Feb. 8. The second half of the preceding calendar year proved to be a fruitful one for the company. The reasons are not hard to comprehend; the company has added more than $1 billion to its revenues every quarter, beginning with $10.6 billion in the fourth quarter of 2011 to $14.4 billion in the previous quarter.

Behind this feat stands a strong sense of optimism and a spirit of entrepreneurship at both the input and output level. Google prides itself on encouraging entrepreneurship in employees within the organization. Google’s approach towards reinventing internet usage has redefined the ways in which information can be accessed and used.

A Look at the Financials

Google’s financial statements indicate that costs and expenditure are structured on a variable basis. This implies that growth in revenues will be accompanied by expenditures consuming a larger portion of the pie. This is exhibited by a 65% absolute year-over-year increase in cost of revenue in the last quarter. Cost of revenue has now gone up to 43% from 35% a year ago.

Moreover, while Google grew by 5.4% this quarter, the industry grew by 10.8%. Furthermore, there was a year-over-year rise of $623 million in traffic acquisition costs. These costs can be expected to escalate further as Google attempts to gain more market share in international markets, especially China.  In addition, as market share and number of advertisements increase in the future, total revenue may exhibit a less than proportional increase due to competition from Yahoo!, Bing, and other international competitors.

The Future exhibits Android all the Way

Google derives more than half of its revenues from markets other than the U.S., and the promise lies there too. Between July 2011 and 2012, China exhibited an astounding 401% growth in the market for Android devices powered by Google Operating System, followed by Chile at 279% and Brazil at 220%. In addition, from a current 60% share in the smartphones market, Google-based Android is expected to have a 50% market share by 2015.

Moreover, while BRIC countries are being lauded as the next location for Android growth, in my opinion the Developing-8 countries comprising Malaysia, Egypt, Iran, Pakistan, Turkey and Bangladesh should be closely watched as the next significant contributors to Google’s googling revenue. 

And not to forget; with excitement and anticipation hovering around the launch of Google’s X Phone in early spring or May 2013, the Android market may acquire a newer, more creative, and comprehensive face than ever. If things go according to plan, revenues are expected to cross the $70 billion mark in December 2014.

Comparison with Peers:

Google peers include Yahoo! (NASDAQ: YHOO), Facebook (NASDAQ: FB), and Apple (NASDAQ: AAPL). Yahoo!, Google, and Facebook are three of the strongest players in the mobile market. At the moment, mobile is the most lucrative market, and companies are trying to gobble up as much share as possible. These three companies are extremely well positioned to take advantage of the growth opportunity in the mobile market.

Yahoo! has one of the most popular email services in Yahoomail. Furthermore, Yahoo! has a strong search engine, as well as a hugely popular finance website, that attracts massive levels of traffic. Facebook also has one of the highest levels of internet traffic; however, Yahoo! has an advantage when it comes to monetizing its visitors. A recent increase in rates by the company is proof that Yahoo! is able to monetize its user base. However, Yahoo! is still behind Google in monetizing its user base, and Google makes a lot more money in ads than any of its competitors. Nonetheless, Yahoo! is resurgent, and if it can carry on its rise it may prove to be tough competition for Google.

On the other hand, Facebook has launched its search engine. Facebook has one of the biggest databases available, which it can use to create an extremely effective search engine. However, as I mentioned above, Facebook has been unable to effectively monetize its user base. As a result, the company is lagging behind its competitors. Facebook's search engine could prove to be a massive success if the company is able to implement the idea properly. As a result, Facebook may become the biggest competitor for Google in the Search engine segment.

Apple, on the other hand, has had a tough start to the new year. The stock lost substantial value after the earnings report for the fourth quarter. However, it should be kept in mind that Apple is the biggest competitor for Android. The company has an extremely loyal fan base, which will flock in numbers as the company launches its next product. Apple stock has started to gain its lost value, and over the past week, it has recovered substantially. Google has expanded itself massively, and the company competes with a number of companies in different segments. There is intense competition in the market and a lot of pressure to innovate. All of the participants will have to focus on innovation in order to consolidate their market positions.

Summary:

In the current dynamic and globalized world, despite the economic slowdown, consumers are increasingly spending on technologically advanced devices and smartphones. With Google one step ahead on the innovation trajectory, I would recommend a Buy stance on Google with share price expected to exceed $800 per share in the latter half of the calendar year.  The stock is currently trading with an average P/E ratio of 16.43 in comparison to 9.03 for the industry, and an average PEG ratio of 1.19. In addition, I would expect the EPS to cross $40 by December 2013, up from $10.42 in December 2012.


IshtiaqAhmed has no position in any stocks mentioned. The Motley Fool recommends Apple, Facebook, and Google. The Motley Fool owns shares of Apple, Facebook, and Google. 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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