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Sam Subramanian

GOOG Stock: What'll It Take for the Search Engine's Shares to Steam Ahead to an All-Time High?

Sam Subramanian PhD, MBA

After staring in January 1996 with the mission to 'organize the world's information and make it universally accessible and useful', Google’s (GOOG) success has been phenomenal. Google’s dominance of the Internet has made its recognition as pervious as the Internet itself.

  • BrandZ's names Google as the most powerful brand in the world.
  • Fortune Magazine rates Google as the fourth best place to work.
  • Google’s share of the Internet search market leads the second by a long shot.

And most enviably, Google is among the few companies whose name is used as a verb.

While owners of GOOG stock have been amply rewarded since their initial public offering (IPO) in 2004, a few chinks have started to appear in Google’s armor.

Google's Competitors are Gaining Advantages

  • Beefing up its technology and supporting it with aggressive advertising, Microsoft (MSFT) is scoring successes with its Bing web search. Bing's competitive positioning will likely improve as Yahoo! (YHOO) and Bing forge ahead with their merger. While Google’s search market share appears to be holding steady, the days of Google’s continually gaining market share have now become elusive.
  • Entering into a row with the Chinese government on censorship and privacy-related matters, Google has decided to shift its search engine operations from the mainland to Hong Kong, leaving the field open to Chinese competitors like Baidu (BIDU), SOHU.com (SOHU), and Sina (SINA).
  • Facebook, the largest social networking website, has recently scored its first round of success, displacing Google as the country's most visited website. According to Internet traffic analysis firm Experian Hitwise (EXPGY.PK), Facebook captured 7.07% of online traffic market share for the week ending March 19, 2010 whereas Google captured 7.03%.

While none of the above developments is likely to undermine Google's near-term earnings, the first two can dampen Google's long-term growth prospects while the third shows that the 800-pound gorilla of the Internet is not invincible.

What Do They Mean for GOOG Stock?

The simple framework of price per share = earnings per share times price/earnings ratio can shed some light.

As uncertainty on Google's growth prospects increases, investors will become less willing to award GOOG stock a higher P/E multiple.

As such, Google has been having trouble maintaining a lofty P/E multiple on its shares. Even though GOOG stock has had an impressive run soaring more than five-fold from its August 2004 initial public offering, the average P/E multiple on GOOG shares has steadily contracted from a high of 53.4 in 2005.

GOOG stock price performance since initial public offering (IPO) in August 2004
While GOOG stock price has risen more than 5-fold since the 2004 IPO, the P/E ratio on GOOG shares has contracted since 2005 as earnings growth has slowed. (P/E data from Value Line, Inc.)

Recent developments will intensify the pressure on Google management to develop growth drivers to complement current earnings streams. The trio of Eric Schmidt, Larry Page, and Sergey Brin has some impressive resources to work with … a clean balance sheet with $25 billion in cash and short-term investments and the talents of nearly 20,000 employees ... to be specific.

Analysts' currently expect Google to grow earnings per share by 18% in 2010 and 15% in 2011. GOOG stock currently trades at nearly 20 times 2010 EPS estimate. If Google is successful in its efforts to shore up growth through initiatives in mobile advertising, proprietary sites, and new technologies, GOOG stock should have little trouble scaling back to its all-time high of $747 a share and adding some. If not, a contracting P/E can become a significant headwind for GOOG stock and its fortunes could go the same way as Eastman Kodak (EK) or Xerox (XRX) shares.

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AlphaProfit MoneyMatters is a free e-letter distributed to registered users of AlphaProfit's website. The e-letter analyzes the economy, markets, and sectors and provides money-making insights on stocks, exchange-traded funds, and mutual funds. AlphaProfit MoneyMatters is edited by Dr. Sam Subramanian acclaimed for his financial acumen and analytical skills.

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