Stock Split Or Not, Earnings Matter More
Chad is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
I've seen more written about Google's (NASDAQ: GOOG) upcoming 2 for 1 stock split than the important news of the company's earnings. I understand shareholders want their voice to be heard, but the company's results are being overlooked in light of the new share structure. Long term investors should be just as concerned about the earnings trend of the company. So stock split aside, how did Google's recent earnings report stack up?
There are a few measures that define Google to me: paid clicks, cost per click, and traffic acquisition cost (TAC). While Google has its hands in a lot of projects, the company is primarily a search engine and derives a solid chunk of its earnings from search. Where paid clicks are concerned, Google's story looks excellent, look at the trend of paid clicks growth in the last four quarters:
So Google has increased paid clicks tremendously in the last two quarters in particular. With the company's paid clicks increasing from 18% to over 30%, it looks like Google's doing fine. However, while paid clicks are going up, cost per click shows a different picture. Look at the reversal in cost per click in the last four quarters:
In the last four quarters, Google's growth rate in cost per click has reversed course in dramatic fashion. A year ago cost per click growth was positive by 12%, as of this most recent report Google shows negative 12% growth. If I'm a long term shareholder this is a number I'm watching with a cautious eye. Keep in mind that cost per click increased every quarter in 2010, so the last two quarters broke a trend that was over a year and a half old. The concern I would have is, if paid clicks are dramatically increasing at the expense of cost per click, is Google discounting cost per click to drive more companies to pay for their links? This is fine as long as paid clicks continue to increase, but if paid clicks slow down, Google will have a problem. As fool Rick Munarriz recently pointed out, Google still holds about 66.4% of search according to comScore. That being said, he also pointed out that over the last year Microsoft's (NASDAQ: MSFT) Bing engine has gained market share, increasing from under 12% to over 15%. One has to wonder if Google is discounting cost per click as a way to compete with Bing? I find it ironic that in the last two quarters Bing's growth has stagnated, during the same time that Google's paid clicks all of a sudden jumped, and cost per click declined. This is either terrific irony or Google's battle plan.
When it comes to traffic acquisition costs, Google seems to have leveled off. This is good and bad for shareholders. A few years ago Google's TAC was 28%, in the last four quarters it has vacillated between 24% and 25%. This shows that Google may have squeezed as much margin out of their costs as possible. It seems that shareholders shouldn't look for further improvement in TAC as a way for the company to boost earnings.
Long story short, long term investors in Google need to watch the trade off between paid clicks and cost per click. As long as the overall number shows growth, then Google is doing the right thing. However, if cost per click continues to decline and paid clicks show any slowdown, this could hurt earnings. Keep that in mind the next time you read something about Google's impending stock split, it's earnings that matter more in the long run.
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