A Winning Business to Buy and a Loser to Avoid

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

In light of all the secular changes going on in technology (the shift towards cloud computing and smartphones), it's hard to invest in a company within the industry and not feel like you are being haphazard. Will Apple really release the next big thing? Or will it be Google? And has the market factored this into the stock price? Either way you reason, it's often hard to not see legitimacy in the other side of the argument. Accordingly, I recommend buying in businesses where growth opportunities outweigh the decay of the core revenue stream (unsustainability is common in the sector). With this in mind, I review Google and Yahoo below.

Google (NASDAQ: GOOG): A Winning Business to Buy

Despite several milestones ranging from Android becoming the #1 mobile OS to continued share gains in search and the integration of YouTube into more mediums than ever, Google's stock price has only increased 5.1% over the last five years. And it's not like the market is tremendously discounting the future either; the stock has a PEG ratio of 1.33x and a price-to-book ratio of 3.2x. In addition, free cash flow, while steadily on the increase both organically and through M&A activity, isn't substantial at a yield of 5.8%. This is upsetting for a company that has so many opportunities to monetize its services.

In ways, the company has become a bit of Facebook (NASDAQ: FB), but with sustainable fundamentals. It's slogan "Don't be Evil" might as well be changed to "Don't be a Capitalist." The founders retain voting control of the company, which I think is fine, so shareholders have really had to just "go with the flow." In my view, however, Sergey Brin and Larry Page are talented leaders who will drive substantial shareholder value for patient investors. Larry Page has spoken about building a "unified product" -- a comment that actually caused at least one journalist to wonder whether Google has indeed become "evil." Integration of Google calendar and Google+ results into Android-run smartphones represents a huge catalyst on the bottom line just from advertising revenue alone. Charges for special apps or royalties also should be in the works. By contrast, I see limited revenue opportunities for Facebook. It could create paid-for add-on services or charge game designers, but the whole model exists on an ephemeral website which, unlike Google.com, doesn't have enough time to extend onto other platforms.

Driverless cars and virtual glasses have gotten much attention; in fact, they, along with the rest of the Google X project, are what founder Sergey Brin now devotes most of his time towards. And they ought to be, since they could turn Google into a hip consumer business. If Apple was able to succeed with the iPod, Google might do the same with either glasses or driverless cars. And, if it does, it has plenty of resources at its disposal to generate synergistic value: the world's leading video tube (YouTube), the world's leading search engine (Google), the world's leading email system (Gmail), a rising social network (Google+), etc. On this note, I strongly encourage buying shares.

Yahoo (NASDAQ: YHOO): A Losing Business to Avoid

Yahoo is basically the complete opposite of Google. It has done very little over the years, and shareholder value has rightfully plummeted 31.4% over the last five years. Revenue opportunities also look quite weak. Yahoo is powered with Microsoft's Bing, and the results have been lousy in terms of international and mobile share. Google's desktop search share now stands at 83.6%, 10.7x Yahoo's slice of the pie. Now the rumor has it that Yahoo is looking to buy TVGuide -- how this will drive synergistic value, one can only wonder. Some claim that it may complement the Broadcast Interactivity platform, but at a valuation of as much as $25 million, the contribution is too little.

Humorously, there are rumors that Yahoo is looking to partner with Facebook, a claim that the latter has dismissed. But, just like McDonald's insistence that it has "no plans for the bagged coffee market" (see here for result), corporate executives can (and, sometimes, should) say one thing and do another. In Facebook's case, I am not optimistic about what such a partnership could entail. After all, tying together two one-legged men won't make the result any more mobile.

In general, Yahoo should be downsized and possibly sold. Shareholders have been calling on the CEO to announce job cuts and thereby limit the cost structure. But at 16x forward earnings and near its 52-week high, I don't believe the company can cut its way to outperformance. I like it when cost cutting is coupled with growth investments, and, in Yahoo's case, it isn't. For this reason, I recommend avoiding the stock.

TakeoverAnalyst has no positions in the stocks mentioned above. The Motley Fool owns shares of Facebook and Google and has the following options: long JAN 2014 $20.00 calls on Facebook. Motley Fool newsletter services recommend Facebook, Google, and Yahoo!. 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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