More analysts are frantically cutting estimates for Google as anecdotal accounts suggest that the company is having a rough quarter. In a way, this is good news: A wholesale resetting of expectations is a prerequisite for a sustained rally in the stock…because otherwise the company won’t be able to beat expectations.
So where are we now?
Estimates for Q4 have come down nicely, but consensus for 2009 is still way too high. Analysts now expect Google’s revenue to jump 19% next year, as compared to a 20% estimate a month ago. We expect that estimates ultimately have to drop to 10%-15% growth, if that.
Here’s the latest cut, from Collins Stewart’s Sandeep Aggarwal. We agree on the deteriorating fundamental trends and disagree on the supremely optimistic $465 target on the stock:
¡ We are now assuming flat CPC growth Q/Q for Q4-08
We are cutting our estimates for Google due to further weakening of retail and advertising environments and the resulting CPC [cost per click] pressure dilemma. Our Q4 net revenue now implies 5% Q/Q growth on constant currency basis and 2% Q/Q on FX adjusted basis and ’09 implies 20% net rev growth. We believe that the high CPC inflation Google has been experiencing for the past 6 quarters is not sustainable and will pressure core search growth in Q4-08 and ’09. Though in the current economic environment search budgets are still holding better than perhaps any kind of advertising categories, the sponsored clicks growth started to slow down in Q4-07 and starting from Q3-08 we witnessed the slowing CPC growth. However, Google is currently trading at 13.6x our ’09 PF EPS and 7.5x our ’09 EBITDA and can provide material upside in the event of even a modest recovery in the macro economic outlook.
¡ The CPC dilemma at Google
In our view, the prior CPC hikes Google achieved were a function of two factors – 1) bid density (number of advertisers for a keyword determined the CPC) and 2) quality scoring (higher minimum bid for low quality keywords). We think that due to a weaker economy bid density is now getting affected and quality scoring by nature has diminishing marginal returns. As per our estimates, going forward bid density will deliver 2%-4% Y/Y lift in CPC and quality scoring perhaps 1%-2% vs. average of 6% Y/Y each for the past six quarters.
¡ In spite of headwinds GOOG can outperform ‘Net ad market
During our conversations with several advertisers and media buyers we have been hearing that overall ad budgets continue to come down but ‘Net ad continues to see secular growth trends, albeit at a lower pace. Advertisers/media buyers continue to find Search to be the most compelling online ad format. In our view Search will very likely outperform the overall ‘Net ad growth and a modest market share gain by Google means GOOG can be one of the fastest growing online ad companies.
¡ Our new vs. old estimates
For Q4-08 we are at net rev of $4.26bn (prior $4.37bn), adjusted EBITDA of $2.54bn (prior $2.58bn), and pro-forma EPS of $5.10 (prior $5.21).
¡ How do we break down Google’s top-line growth for 2009?
Our ’09 net revenue growth of 20% assumes 15% growth in core search and 5% growth in non-core search i.e. mobile Internet ($250mm incremental), YouTube ($200mm incremental), Google Apps ($175mm incremental), & DoubleClick ($90mm incremental).
Our ’09 gross search growth of 17% (including mobile & video) is based on 9%Y/Y for search queries, 2% Y/Y for CTR, and 4% Y/Y for CPC.
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