Last November, Barron's summarized (sub req'd) the estimates of 19 analysts, who had target prices ranging from $112/share to $225/share. As we've seen, Google again confounded Wall Street, as they're now trading at $280, down from a high of $299.
This weekend, Barron's looks at Google's market cap again, and concludes (sub req'd):
Google may be worth $30 or over $300 a share, but whatever numbers you believe, the stock has a lot more risk and a lot less upside at its current exalted level.Google is tough for Wall Street because they're growing so fast along with unprecedented profit margins that small changes in assumptions yield dramatic swings in valuation. Since Google refuses to provide any guidance to Wall Street, analysts actually have to do their own research to assess the company's prospects:
Google offers no quarterly or annual earnings guidance and declines to give any details on the direction the business might take in the months and years ahead. As a result, making forecasts about the company's profits -- and stock price -- involve inherent peril.In short, if Google stopped growing the business today and just kept up their current business -- $2 billion in annual net revenue generating $1 billion in operating cash flow -- they'd be a great business but worth a small fraction of $77 billion. Google's seemingly sky-high valuation is driven more by their prospects than by their achievements.
So what are their prospects, at least as Wall Street sees them?
The Street consensus -- it's more an average than a consensus -- calls for revenues this year of about $3.6 billion, with profits of $5.21 a share....2006 estimates call for revenue of $5 billion and earnings of $6.62 a share. But please keep in mind that the Street doesn't really know anything, since, as I said, Google won't help them with their models -- in Google's first few quarterly reports, estimates have been way too low.And it's not just that Google won't provide forecasts of sales and earnings. Wall Street doesn't trust that Google will manage the business to maximize profits or cash flow.
David Edwards, an analyst at American Technology Research, says, "Google is managed in an unconventional manner," he says, " so you can't assume they will do things other companies would do." Edwards notes, for instance, that Wall Street might like to see Google sell ads on its home page -- but it doesn't. "So you have to make double assumptions. You don't know what the company is doing, and you don't know the motivations of management."Here, "unconventional" means that they're managed for the long term rather than the quarterly report. And then there's that whole "Don't Be Evil" thing that befuddles the analysts.
So here's the conventional way to value the company:
Based on 2004 numbers, Google trades for about 40 times revenues and roughly 100 times earnings. Of course, no one uses those numbers. Using 2005 estimates, you get 22 times revenues and 52 times earnings. Things look more reasonable if you use 2006 estimates, which translate to 16 times revenues and 41 times earnings. If there were 2010 estimates, the stock might actually look cheap.So, what about comparisons to other media companies?
Those companies tend to trade at about twice annual revenues. Tribune, which should do $5.7 billion in revenue this year, has a market cap of $11.3 billion. Gannett, has a little higher valuation, $18.5 billion, compared with expected revenues of $7.6 billion. Clear Channel gets a lower valuation, a market cap of $16 billion on expected revenues of $9.4 billion.At twice annual net revenues, Google would be worth about $4 billion to $6 billion, or between $14 and $21 per share. But this is a useless comparison because these media companies are not even on the same planet as Google when it comes to growth or profit margins:
But Google is growing a lot faster, and so is the market it serves....According to Forrester Research, total U.S. online advertising and marketing spending in 2005 should hit $14.7 billion, up from $12 billion in 2004. (The Internet Advertising Bureau puts the 2004 number at a more conservative $9.6 billion.) By 2010, Forrester predicts, the total should reach $26 billion. So Google trades at about three times the entire domestic addressable market five years out.The Barron's article concludes with a quote from John Hussman of the $1.7 billion Hussman Strategic Growth fund (read the entire article, it's very good):
So what's the biggest web search company worth? Barron's sarcastic conclusion is, "Search me."John Hussman wrote a column on his Website last week that theorized Google would be more appropriately valued at $30 than $300. "I'm happy to concede that if Google's current revenues and profitability are only the beginning, and can grow at very high rates for very long periods of time, then the stock might be worth $300," he said.
"But my argument is that those assumptions are absurd. Even though the company's free product is very good, it's not defensible in any particularly strong way. In Economics 101, we teach that the only way a company can secure a profit is to have a product that is not only useful, but also kept scarce in the sense of not having constant new entries and competition. And one thing that's certain is that valuing this company at one-fifth the value of General Electric will draw a lot of very intelligent competition. It's going to be a lot of fun to see how many competitors enter this field in the next couple of years. Nothing draws innovation like this sort of market capitalization."