Online Advertising
Google Inc (NASDAQ:GOOG) is still delivering healthy revenue growth, sales increased by 19% for the quarter, although they were a tad below analysts’ expectations at $14.11 billion versus the $14.4 billion estimated by Wall Street analysts, that kind of growth is quite impressive for a company of its size. Adjusted earnings per share of $9.56 where a bigger disappointment though, analysts were forecasting $10.78 on average.
One reason for the earnings miss was falling costs per click, meaning the price that Google Inc (NASDAQ:GOOG) charges for its ads. The shift of users from desktops to mobile devices is pushing down costs per click rates on an industry wide basis, and Google is no exception to the general rule. Mobile ads are cheaper that traditional desktop ones, but Google still delivered a 23% increase in volume which more than compensated the decline in prices.
Yahoo! Inc. (NASDAQ:YHOO), in comparison, reported an 8% decline in costs per click excluding Korea for the last quarter, but made it up in volume with a 21% spike in the number of clicks. The trend is the same here, growing volumes and falling prices, but it’s worth noting that both companies are doing quite well on a total revenue perspective, and Google Inc (NASDAQ:GOOG) also continues outgrowing Yahoo! Inc. (NASDAQ:YHOO).
Microsoft Corporation (NASDAQ:MSFT) said online advertising revenue was up 11% for the quarter, driven by both rate and volume improvements in its search business. However, management is expecting revenue to grow in the low double digits in the next quarter as lower costs per click will affect Microsoft Corporation (NASDAQ:MSFT) too.
According to COMSCORE, Inc. (NASDAQ:SCOR), Google has a market share of 66.7% in the U.S. search market, way above Microsoft´s 17.9% and Yahoo´s 11.4%. Even if we consider Microsoft and Yahoo! Inc. (NASDAQ:YHOO) as a single competitor, which is reasonable considering that both use Microsoft Corporation (NASDAQ:MSFT)´s Bing technology, their joint participation of 29.3% would still be less than half that of Google´s.
Google is the top dog in online advertising, and the company continues outgrowing the competition. This is a crucial advantage in an industry in which competitive strength builds upon itself; the more we use a search engine, the more it learns about ourselves and the better it gets. Google is bigger because it’s better, and it’s better because it’s bigger.
The mobile revolution means that costs per click will most likely remain under pressure, but at the same time it means rapid growth in paid clicks. Falling prices are being more than compensated by growing volume, and overall revenue is still showing healthy growth, so things don´t look so dismal for Google.
Besides, the company is in a position of exceptional strength to capitalize the opportunities coming from mobile. Google´s Android operating system is the unquestionable leader in global smartphones platforms, especially when it comes to high growth emerging markets, and it has also been gaining market share in tablets over the last quarters.
Apple Inc. (NASDAQ:AAPL) owns the high-end segment of the market, but Google Inc (NASDAQ:GOOG) is well entrenched into Apple´s ecosystem too. The Apple Inc. (NASDAQ:AAPL) Maps fiasco has proven how important Google is for iOS: applications like Maps, Search, Gmail and YouTube among many others are vital for both Google and Apple Inc. (NASDAQ:AAPL). In fact, Google is believed to make more money in iOS devices than in Android ones.
When it comes to online advertising, no company is in a better position than Google to benefit from its leadership and competitive strength, both in desktop and mobile. Even if costs per click are falling, online advertising is a promising industry on a long term basis considering that people all over the planet are spending an increasingly bigger share of their time online. Advertising dollars need to follow consumers, and this powerful trend is benefiting Google in a big way for years to come.
Rising Expenses
Another reason for concern was the increase in expenses Google Inc (NASDAQ:GOOG) reported for the last quarter, total Non-GAAP costs and expenses represented 72% of revenues in the quarter, a considerable increase versus 66% in the second quarter of 2012.
Costs are rising across the board as Google puts long-term growth opportunities ahead of short term profit margins, which is precisely what innovative companies do. Advertising is the cash cow in the company´s business model, and Google is putting that money to work on all kinds of projects targeted both at consolidating its position in online advertising and at expanding into new business areas.
From hardware to cloud computing, going through Google Fiber and Google Apps, there many areas in which Google has been planting the seeds of growth over the last years. Not every one of these ventures will bring big financial rewards, of course, but the company has materially diversified its possibilities by becoming a relevant player on many attractive trends.
Technologies like self-driving cars and augmented reality glasses have limited commercial viability in the short term, but they show that Google is a relentless innovator with enormous disruptive potential on a long-term perspective.
Considering what the company has done with YouTube, Chrome and Android among others, Larry Page and his team deserve the benefit of the doubt when it comes to investing shareholders’ money in new products and technologies.
Bottom Line
Rising expenses and lower costs per click could generate falling margins and slower earnings growth for Google Inc (NASDAQ:GOOG) over the coming quarters. However, the company´s competitive strength in online advertising is unparalleled, and Google is aggressively investing in different projects with exciting potential for disruption over the next years. On a long-term basis, Google is stronger than ever.
The article Buying Google on Earnings Weakness originally appeared on Fool.com and is written by Andrés Cardenal.
Andrés Cardenal owns shares of Google and Apple. The Motley Fool recommends Apple and Google. The Motley Fool owns shares of Apple, Google, and Microsoft. Andrés is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.
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