Remember when Google (GOOG) was trading above $700 back in 2007? Heck, remember when it was above $600 at the start of this year? Those halcyon days seem far away, especially after Google's second-quarter earnings report sent the stock sinking Friday.
Google closed at $494 before it announced disappointing earnings Thursday afternoon. On Friday, the stock opened at $469 -- a drop of 5% right off the bat -- before sinking further for the rest of trading. At the end of the day, Google was down 7%, compared with the Nasdaq's 3% drop.
Google's EPS of $6.45 in the quarter was below the mean of analyst expectations, which at $6.52 had already priced in a lackluster quarter. Analysts parsing the financial report were distressed about hiring -- 900 new employees hired in the quarter, plus another 300 through the merger with AdMob -- and its effect on margins.
Add the company's problems with China, the costs of producing its own Nexus One mobile phone and the specter of government investigations, and Google is looking like a risky bet.
Speed Bumps on the Road to Greater Things?
A seven-cent miss isn't the end of the world, but the Street has high expectations for Google. It doesn't disappoint very often. Eight quarters ago, when the company missed analysts' estimates by 10 cents a share, the stock fell 12% over the next two days.
If investors are distressed over things like thinning operating margins, Google's management sees them as so many speed bumps on the road to greater things. So alongside the concerns about shrinking margins, there's also a case to be made that Google will be just fine in the long run.
Below are some positive factors that over time will counter the concerns weighing down the stock.
Android Is the Past, Chrome Is the Future
Android is a hit -- and even if it fizzles, Chrome looks just as promising. Google's share of searches seems to have plateaued at around 60% or 65% (depending on the company measuring it). But the search giant recognizes that ad-revenue growth will be stronger on mobile platforms.
That's why Android is key to Google's mobile strategy. The software is free, but it provides a platform for serving Google ads on smartphones, which is where people are increasingly accessing the Web. And Android phones like the Droid X -- which sold out on its first day of sales last week -- are seeing their share of the smartphone market, dominated by Apple (AAPL) in the U.S., grow quickly.
Beyond Android, there's Chrome, an operating system designed for the cloud economy. Right now, Chrome OS is still a work in progress and hardly a player. But as netbooks and tablets grow more dependent on cloud services, Chrome will grow central to Google's strategy. As one tech guru said, "Android is a bet on the past. Chrome is a bet on the future." That guru wasn't working for Google. It was Microsoft's (MSFT) Ray Ozzie.
And this is Google's overarching strategy: To keep drawing on its search revenue while planting seeds not just for the next quarter, but for the next several years -- just take a look at its recent investments and acquisitions.
Since mid-April, Google has made several deals in a wide array of areas: Video-conferencing software (Marratech), music streaming (Simplify Media), airline flight information (ITA Software), 3-D desktops (Bump Technologies) and social games (Labpixies).
Just this week, it was revealed that Google invested more than $100 million in Zynga, the maker of wildly popular Facebook games like Farmville. It gives Google a foothold in social games, a fast-growing niche, just as the Simplify Media acquisition offers Google a foothold in another fast-growing area -- online music.
Revenue: U.S. Growing Faster Than International
Not all of these deals will pan out, but few are expensive, and Google only needs a few hits to keep profits growing. Google has shown it's quick to cut bait when an initiative isn't working. It has started and junked several efforts in social media (Base, Orkut, Wave) and is finally, if slowly, gaining traction with Google Buzz.
Google has a reputation as a one-trick pony, good at search but with no second act. But the company is quietly growing revenue in other areas, such as YouTube and display ads. Mark Mahaney at Citicorp noted that these revenue streams, along with search improvements, caused Google's U.S. revenue to grow 26%, even faster than its 23% growth overseas.
This is bullish, Mahaney argued, because it was the first time U.S. revenue ever grew faster than international revenue. The new revenue streams will grow overseas soon. It's also bullish because Google is finally reaping some return on its investments beyond search. Its overarching strategy is finally bearing fruit.
Google is a company with $30 billion in cash and marketable securities and a stock trading at 14.5 times 2011 earnings. Investors are rightly concerned about the short-term problems facing the business. But for those who believe in Google's long-term promise, it's not such a dark time right now.
Bonds for Beginners
Learn about fixed income investments.View Course »