When – on August 22, 1851 – schooner-yacht America defeated 15 other yachts representing the Royal Yacht Squadron, racing around the Isle of Wight in England to win the renamed “America’s Cup,” Queen Victoria asked who was second. The famous answer was: "Ah, Your Majesty, there is no second."
Similarly, in the search-engine category, Google Inc. (Nasdaq: GOOG), has run away with the trophy, leaving its competitors so far behind that they’re actually still over the horizon. Today, Google controls at least 60% of the search activity on the Internet, eclipsing all its rivals, most notably, Yahoo! Inc. (Nasdaq: YHOO), whose market share hovers around 20%.
And in an even more important landmark: Since the middle of the year, Google has finally been topping content-heavy Yahoo.
In fact, October traffic data released by comScore Inc. (Nasdaq: SCOR) showed Google growing to 147 million visitors, an advance of 12%, over the past year, versus only 6% growth for Yahoo. Google, with the increased ability to meet the new information needs of the public, is clearly gaining momentum. Can you live through a single day without Googling? Probably not.
Also, this search engine dominance allowed Google to veer away from establishing an ad search partnership with Yahoo, which would have posed a significant regulatory problem, creating a controversial and administrative morass that would have diverted critical time and resources away from its mission.
Google’s success increasingly extends to new initiatives: Cloud computing, Internet telephony, search-sensitive ads just launched in the Google-owned You Tube LLC, and the recently-launched GPhone. These are all extension strategies of its dominant presence in search on the Web, and Google is now pushing them aggressively to increase its ability to monetize them. For example, Google is now offering voice-recognition Web search in the IPhone. And this soon will come to the GPhone. So the Internet-search war has been quickly expanded.
In the financial systems of the developed world, as well as in some unprepared emerging markets, valuations have collapsed. What's more, given the news, we expect no change anytime soon, for it will take months for the more than $3.5 trillion in global stimulus packages to take effect. In the meantime, job losses will keep escalating, especially in the United States, since unemployment typically peaks after a recession ends. It is a lagging indicator. The financial markets typically discount the situation some six months ahead of an actual uptick in the economy.
And in this situation, where many leveraged institutional players were forced to dump the good with the bad, tons of apparently cheap stocks have hit the radar screens of value players have entered the radar screens of value players. And Google is one of them.
Google, with a forward Price/Earnings (P/E) ratio of only 14.0 and a Price/Earnings to Growth Rate (PEG) ratio of less than one 1.0, is a one-time momentum play that is now a value play. And since it traded at $700 a share a year ago, it appears to be very cheap, and to have most of next year’s economic slowdown already built into its current price. Indeed, it’s quite possible that even if the economy does slow, some or all of Google’s new growth initiatives could generate a revenue or profit surprise.
The shares closed Friday at $262.43.
The company recently beat Wall Street expectations quite handily, with profits for the quarter ended in September rising to $1.35 billion, or $4.24 a share, from $1.07 billion, or $3.38 a share.
Revenue rose 31% from last year, even though it was up only 3% sequentially.
Google is well-managed, is very resourceful and has plenty of maneuvering room. Its managers wisely started controlling costs by reining in expense growth, long the focus of criticism by Wall Street. And it has accelerated the monetization of some of the new initiatives. For instance, even though the economy’s slowdown has weakened consumer spending, competition by advertisers for performance-driven pricing is going to drive pricing-per-click up in the year-end shopping season.
In addition, Google's vast dominance in its home U.S. market still leaves it room to grow in the rest of the world, including such promising markets as Japan and China, where it lags the market leaders. And the name of the game for global growth next year will be the emerging markets. These economies, even though they have been hit by the global financial crisis, have recently implemented strong stimulus plans, which will create growth opportunities as they take hold.
Google's afore-mentioned “cloud computing” initiative, which involves having users utilize software and computing resources located in Google's servers for a fee, as opposed as having to buy and manage their own software, is no longer laughed at: Google has recently achieved gains over Microsoft Corp. (Nasdaq: MSFT), with important enterprise clients adopting some of Google's e-mail services, and dropping Microsoft Exchange and Outlook.
In an economy where cost-cutting is increasingly important, the opportunity to adopt Google’s lower-priced initiatives becomes increasingly attractive to an ever-growing population of small and medium-sized companies that are looking to control expenses.
Microsoft has responded by launching its own cloud computing initiative, Azure, in order to hedge its bets. But the tide is turning away from boxed software towards cloud computing, meaning Google is clearly ahead once more.
Finally, Google's GPhone is 10% cheaper than the rivaling Apple Inc.’s (Nasdaq: AAPL) iPhone, sports an “open architecture,” and emphasizes fast browsing, G-Mail and Google Calendar. This allows for third-party developers to create all sorts of software to run in it. Web services and search are integrated across applications, allowing users to jump directly from applications into Web search or Google maps. Another advantage is the data plan, starting at only $25 a month. The GPhone still has some kinks to work out, but in a few months it should be a serious play in the market. [For a view of the Apple iPhone, check out a recent “Buy, Sell or Hold” feature on Apple from Money Morning.]
The bottom line: The temporary slowdown in the rate of ad revenue growth gives us the perfect opportunity to establish a position in Google, at a very attractive valuation, and before the $3.5 trillion worth of global stimulus money starts to work its economic magic. Could Google’s shares tumble more? Sure. Some extreme bears consider $200 as a possibility. I seriously doubt it could get there. But we are not going to take the risk. Determine how much of a position you want to establish. I would buy one-third of the position initially, and then add in on down days, until two-thirds of the position is established by the end of the year. Keep that remaining third ready, just in case we get the low-probability occurrence of seeing it down to $200.
Action to Take: Buy Google Inc. (Nasdaq: GOOG). Buy one third of your position initially, and then add to it on down days, until you complete two thirds of your position by year-end. Keep the remaining third ready, just in case you get the admitted low-probability occurrence of seeing it down to, or below, the $200-a-share price level. **
[Editor's Note: Horacio Marquez was working as a vice president of the Merrill Lynch Emerging Markets Fixed Income Group in 1994 when he correctly predicted that both Argentina and Mexico were headed for currency crises - cementing his reputation as an expert on both the emerging markets and on the nuances of global finance. Now Marquez brings that expertise to you with his newly created "Shadow Stock Trader" specialized trading service. To find out how to subscribe, please click here. "Buy, Sell or Hold" is a new Money Morning feature that has most recently analyzed such companies as Bank of America Corp. (NYSE: BAC), Suncor Energy Inc. (NYSE: SU), Potash Corp. (NYSE: POT), Garmin Ltd. (Nasdaq: GRMN), Berkshire Hathaway Inc. (NYSE: BRK.A, BRK.B), Cisco Systems Inc. (Nasdaq: CS), Chevron Corp. (NYSE: CVX), Valero Energy Corp. (NYSE: VLO), General Electric Co. (NYSE: GE), and steelmaker Nucor Corp. (NYSE: NUE).]
** Special Note of Disclosure: Horacio Marquez holds no interest in Google Inc.
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