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Friday, April 27, 2018

Google Buy Rating: Business Model On Fire, Explained

google stock
Google (NASDAQ:GOOG)(NASDAQ:GOOGL) reported earnings this week and nobody noticed the acceleration in revenues? Investors were upset they are investing in their core search business which is on fire? That makes no sense. And I'll show you that that Capex spend jump concern is really no concern at all.

Let's Look At Core Search

Nobody cares about this core business that's driving just about all their profits? It's on fire.

Let's break it down simply...

Google reported paid clicks (volume) up 59% and cost per click (pricing) down 19%. Let's add it up. Simple math, go with me here: 59 - 19 = volume + price = 40%. Not bad right? Pretty strong.

But what was it in Q4? Let's see. Paid clicks up 43% and cost per click -14%. Let's add that up now. What do you get? I get 29%. Pretty much what it was the last few quarters.

Wait a minute. It was tracking 29% for three quarters up from 24% previously and now it's what? 40%? That's a huge jump. What's up? And that's the business with most of Google's profits. And people are complaining?

And so their overall revenues grew 26% up from last quarter's 24% up from the previous quarter's 21%. I love a revenue acceleration story. Especially from a core high margin business. That's search.

That's a good thing. Come on Street. What's up?

The company also kept to their message that gross margins will start to decline at a slower rate going forward. That helps our earnings numbers move higher than the Street let alone the faster revenue growth.

And You Don't Want Them Spending?!? Let's Put That Capex Number In Perspective

The stock was down on earnings probably because they were about inline ex-a tax break but also because their capex (Capital Expenditures) spend jumped.

They reported a capex number of $4.3B last quarter to $7.3B this quarter. So, yes, that's a jump. But $2.4B of that was a property purchase which they likely amortize over 25 years so it doesn't dent our earnings numbers.

What we need to zero-in on is the remaining $4.9B that they likely amortize over 7 years according to their 10k. They say in their 10k,

"We depreciate buildings over periods up to 25 years. We generally depreciate information technology assets over periods up to 7 years."

So let's focus on the remaining $4.9B which likely gets depreciated over a shorter time frame.

But wait, that $4.9B this quarter is only $600mm higher than last quarter. So let's figure out the incremental impact to earnings versus last quarter. That's what all the complaining was about? Let's put it in perspective.

If we divide that $600mm over the 7 year life and divide that by quarters (600 / (7 X4)) = $21mm or tax adjusted $.03 per share. Oh no. Their jump in capex is going to add 3 pennies in expenses, the world is over, the story is over!

Wait a minute Elazar, Q1 EPS was like $10.00. Three pennies is nothing.

Oh right, right.

There you have it.  All that whining about a jump in capex is a tiny impact to earnings but an amazing sign that Google sees their accelerating revenue growth and want to own the web for another few decades so they are spending back some upside.  Three pennies worth. Oh no!

Conclusion

We get about 40% upside to this year's numbers and 70% upside using next year's numbers. We like it.

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Reading Comprehension Time
Google Analysts Were Crying:
A) about Google's name change to Alphabet
B) about Trump's latest tweets
B) out of happiness because Waymo's going to be so huge
D) About capex

Answer in comments.

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