Google - $30 or $300?

Even though I think Google ends the year above $300, some people think Google should trade closer to what it's worth -- that is $30.

Is Google worth closer to $30? That's what Ray Conley, an analyst at Palo Alto Investors, thinks. In fact, he thinks Goog 's worth $30 today, especially based on the profit and cash flow he thinks Google can earn in the future. Of course, if I applied that analysis (by using future rent) to value the homes in Marin or San Francisco, I'd price myself out. It's already happened a number of times. Yes, I know. A stock is different from a home. OK, back to Conley. While he can make a case for Goog going up to $436. He can make a case for Goog being worth $137. 

His interview received a lot of interest on MarketWatch. Watch the interview

Also Google wants to WiFi San Francisco, and it's already testing a service through a little company called Feeva.

Here's the WiFi story that aired on CBS a couple weekends ago.
Google WiFi plans in San Francisco

Comments

[Claudio]

Bambi,

I love all yours interviews and briliant analysis you does.

Let's see how Google x Microsoft battle will end up.... ;)

Cheers,
Claudio
Rio de Janeiro - Brazil

[Greg]

Good day Bambi,

I don't really see how anyone can foresee what google is worth. It really confounds me. Everyone is betting that GOOG will be the next microsoft. Its an emotional buy. Who's to say when the emotional sells will follow? I love google, but its stock scares me.

I've written a few rants on this recently @ www.wilgrowinvestments.com check it out...and if you want to make my day...maybe give a comment on one of the recent posts. ;-)

[Al Gore]

I've always said google would be work something on the order of what Ray is saying. I'm actually more pessimistic and think google will implode when the numbers start dropping, the stop options tank, and the revenues drop. Microsoft's marketing machine is going to kick off a war within a year. MSN's results are about the same as google's now. There's no reason to use one or the other based on quality. Just need some marketing to push uses to MSN. Microsoft and Yahoo have diverse revenue streams. Google has one, advertising. Finally, the numer of queries at google are inflated by at least a factor of two, as the also count every advertisement they serve at content provider sites as being a search.

See the light: http://www.AlGoreLabs.com

[Peter Alcibiades]

It is fairly simple to put your money on it, if you think it really is headed for 30. Just buy long dated puts. I have not done so. But if you look at the chart, it does look like a classic overshoot. It reminds you of Radio in '29. The question really is: what is the entry point? If it is not here, we must be pretty close.

The only reason for not thinking so is that we are not yet at the point of general amazement and disbelief at the rises, so maybe there is a ways to go yet. These things never stop until they have absolutely exhausted incredulity. I guess that it will have to get to 600-800 before that happens. It should certainly go beyond what is now being forecast, that is beyond 400. Because 400 seems quite normal to most people now. If you look at the past, there always have to be a couple of leaps beyond what anyone considers remotely reasonable. I am guessing, but I think there may be one or two more gasps of amazement in it yet.

When it does turn, however, it will be a spike and crash if it resembles these things in the past. Once the belief and the buying go, they usually go into freefall.

[Don Dodge]

I read your column on MarketWatch today about the Google Train. You are of course correct that all stocks go up and down. But, comparing Google today to Amazon back in 1999 doesn't work. Amazon was NOT making a profit. Amazon went up 23% in one day on an announcement.

Google is making enormous profits and growing at amazing rates. Google has a P/E that is close to its PEG. Amazon didn't have a "P" in the P/E equation until many years later.

Google's growth and stock price is stunning, but it is backed by real profits at reasonable multiples for a hyper-growth company.

I stayed on the sidelines for a long time watching in disbelief. There just wasn't enough solid revenue/earnings history to make a solid bet. But later when I took the time to study the numbers and trends it was pretty obvious to me that Google is on at least a 5 year run that is mostly up.

Microsoft and Google are destined to compete for users, developers, and eventually paying customers. The competition will be great for consumers and will ultimately stimulate innovation. I wrote about this on my blog today.
http://dondodge.typepad.com/the_next_big_thing/2005/11/microsoft_vs_go.html

Caution is always wise. Making historical analogies helps put things in context. But, Google's numbers speak for themselves. However, if the numbers falter with a bad quarter...look out.

Don Dodge

[Klaus]

Hello Bambi,

as Newton said "what goes up must come down " Each time google goes up I buy another put , at this time It costs a lot of nervs to do so but who beliefs that googles is nearly worth as much as IBM ?
I don`t and soon or later I get my money back.

[Pat Fleck]

Hi, Bambi:

I really enjoy your articles and comments on TV.

Re Google, I side with the folks who say that it's not appropriate to use short-term PEG analysis to value the stock, as if it were a $50 million market cap company with the prospects of growing EPS at 50% for the next ten years or so. Google's earnings growth will slow much sooner than that. Why? Competitive pressure, both in terms of pricing and availability of alternatives, and marginally decreasing demand; i.e., each successive advertiser on Google is just a tad less eager to use the service than the preceding one. Furthermore, I believe the size of the potential market for search ads is overstated. Sure, perhaps it’s true that only 4% of advertising dollars are now spent on the Web, but that’s not to say that it’s true that the other 96% could or should be spent on search. There are many different types of advertising, and most of it has nothing to do with search. Furthermore, Google also faces other constraints, such as availability of the talented people needed to enable growth. Does anyone honestly believe Google could triple the size of its employee base and maintain the current level of quality of its staff? Take a look at what the Indian I.T. outsourcing firms are going through in trying to find talent if you want a corollary.

This is all off topic relative to my primary point, however. A more appropriate valuation methodology is to do a long-term discounted cash flow analysis on Google’s cash-basis earnings. A somewhat simpler method is to project Google’s earnings at a point in the future when its growth stabilizes to a more reasonable long-term rate, apply a fair multiple to those earnings to arrive at a reasonable stock price in the future, and then discount that price backwards at some fair discount (i.e., interest) rate to arrive at today’s price. For example, say Google reaches maturity in five years with $12 billion in pre-tax earnings, which is about 10x what the company will earn in 2005 – an optimistic number, but let’s run with it for the sake of this example. Assuming a 35% tax rate, we then get $7.8 billion in net earnings. Assuming Google can still grow at 10%-15% for a few years after that, let’s then value those earnings with a 20 PE. That gives us a market cap in 5 years of $156 billion. Let’s then assume that a rational investor today would be willing to accept a 9% return on his investment in Google. (Personally, I wouldn’t be satisfied with that, as I believe Google is a much riskier proposition than that.) So, we then discount that $156 billion back 5 years at 9%, which gets us to a market cap today of $101 billion. This is somewhat less than today’s actual market cap of about $110 billion. Under very favorable assumptions, the stock is looking pretty fully valued right now. Without going into more calculations, it’s fair to say that if Google misses a beat somewhere along the way, the stock would be quite vulnerable. Merely changing the discount rate to 12% gets us to a theoretical valuation of $88 billion -- a 20% discount off of today's actual market cap.

Clearly, Google was a steal at its $85 IPO price. However, only time will tell what kind of value is represented at $400. Personally, I think any buyers beyond the current level are just playing the "greater fool" game.

[Pat Fleck]

Hi, Bambi:

I really enjoy your articles and comments on TV.

Re Google, I side with the folks who say that it's not appropriate to use short-term PEG analysis to value the stock, as if it were a $50 million market cap company with the prospects of growing EPS at 50% for the next ten years or so. Google's earnings growth will slow much sooner than that. Why? Competitive pressure, both in terms of pricing and availability of alternatives, and marginally decreasing demand; i.e., each successive advertiser on Google is just a tad less eager to use the service than the preceding one. Furthermore, I believe the size of the potential market for search ads is overstated. Sure, perhaps it’s true that only 4% of advertising dollars are now spent on the Web, but that’s not to say that it’s true that the other 96% could or should be spent on search. There are many different types of advertising, and most of it has nothing to do with search. Furthermore, Google also faces other constraints, such as availability of the talented employees needed to enable growth. Does anyone honestly believe Google could triple the size of its employee base in the next couple of years and maintain the current level of quality of its staff? I don't think so. Take a look at what the Indian I.T. outsourcing firms are going through in trying to find talent if you want a corollary.

This is all off topic relative to my primary point, however. A more appropriate valuation methodology is to do a long-term discounted cash flow analysis on Google’s cash-basis earnings. A somewhat simpler method is to project Google’s earnings at a point in the future when its growth stabilizes to a more reasonable long-term rate, apply a fair multiple to those earnings to arrive at a reasonable stock price in the future, and then discount that price backwards at some fair discount (i.e., interest) rate to arrive at today’s price. For example, say Google reaches maturity in five years with $12 billion in pre-tax earnings, which is about 10x what the company will earn in 2005 – an optimistic number, but let’s run with it for the sake of this example. Assuming a 35% tax rate, we then get $7.8 billion in net earnings. Assuming Google can still grow at 10%-15% for a few years after that, let’s then value those earnings with a 20 PE. That gives us a market cap in 5 years of $156 billion. Let’s then assume that a rational investor today would be willing to accept a 9% return on his investment in Google. (Personally, I wouldn’t be satisfied with that, as I believe Google is a much riskier proposition than that.) So, we then discount that $156 billion back 5 years at 9%, which gets us to a market cap today of $101 billion. This is somewhat less than today’s actual market cap of about $110 billion. Under very favorable assumptions, the stock is looking pretty fully valued right now. Without going into more calculations, it’s fair to say that if Google misses a beat somewhere along the way, the stock would be quite vulnerable. Merely changing the discount rate to 12% gets us to a theoretical valuation of $88 billion -- a 20% discount off of today's actual market cap.

Clearly, Google was a steal at its $85 IPO price. However, only time will tell what kind of value is represented at $400. Personally, I think any buyers beyond the current level are just playing the "greater fool" game.

[Pat Fleck]

Hi, Bambi:

I really enjoy your articles and comments on TV.

Re Google, I side with the folks who say that it's not appropriate to use short-term PEG analysis to value the stock, as if it were a $50 million market cap company with the prospects of growing EPS at 50% for the next ten years or so. Google's earnings growth will slow much sooner than that. Why? Competitive pressure, both in terms of pricing and availability of alternatives, and marginally decreasing demand; i.e., each successive advertiser on Google is just a tad less eager to use the service than the preceding one. Furthermore, I believe the size of the potential market for search ads is overstated. Sure, perhaps it’s true that only 4% of advertising dollars are now spent on the Web, but that’s not to say that it’s true that the other 96% could or should be spent on search. There are many different types of advertising, and most of it has nothing to do with search. Furthermore, Google also faces other constraints, such as availability of the talented employees needed to enable growth. Does anyone honestly believe Google could triple the size of its employee base in the next couple of years and maintain the current level of quality of its staff? I don't think so. Take a look at what the Indian I.T. outsourcing firms are going through in trying to find talent if you want a corollary.

This is all off topic relative to my primary point, however. A more appropriate valuation methodology is to do a long-term discounted cash flow analysis on Google’s cash-basis earnings. A somewhat simpler method is to project Google’s earnings at a point in the future when its growth stabilizes to a more reasonable long-term rate, apply a fair multiple to those earnings to arrive at a reasonable stock price in the future, and then discount that price backwards at some fair discount (i.e., interest) rate to arrive at today’s price. For example, say Google reaches maturity in five years with $12 billion in pre-tax earnings, which is about 10x what the company will earn in 2005 – an optimistic number, but let’s run with it for the sake of this example. Assuming a 35% tax rate, we then get $7.8 billion in net earnings. Assuming Google can still grow at 10%-15% for a few years after that, let’s then value those earnings with a 20 PE. That gives us a market cap in 5 years of $156 billion. Let’s then assume that a rational investor today would be willing to accept a 9% return on his investment in Google. (Personally, I wouldn’t be satisfied with that, as I believe Google is a much riskier proposition than that.) So, we then discount that $156 billion back 5 years at 9%, which gets us to a market cap today of $101 billion. This is somewhat less than today’s actual market cap of about $110 billion. Under very favorable assumptions, the stock is looking pretty fully valued right now. Without going into more calculations, it’s fair to say that if Google misses a beat somewhere along the way, the stock would be quite vulnerable. Merely changing the discount rate to 12% gets us to a theoretical valuation of $88 billion -- a 20% discount off of today's actual market cap.

Clearly, Google was a steal at its $85 IPO price. However, only time will tell what kind of value is represented at $400. Personally, I think any buyers beyond the current level are just playing the "greater fool" game.

[Pat Fleck]

Hi, Bambi:

I really enjoy your articles and comments on TV.

Re Google, I side with the folks who say that it's not appropriate to use short-term PEG analysis to value the stock, as if it were a $50 million market cap company with the prospects of growing EPS at 50% for the next ten years or so. Google's earnings growth will slow much sooner than that. Why? Competitive pressure, both in terms of pricing and availability of alternatives, and marginally decreasing demand; i.e., each successive advertiser on Google is just a tad less eager to use the service than the preceding one. Furthermore, I believe the size of the potential market for search ads is overstated. Sure, perhaps it’s true that only 4% of advertising dollars are now spent on the Web, but that’s not to say that it’s true that the other 96% could or should be spent on search. There are many different types of advertising, and most of it has nothing to do with search. Furthermore, Google also faces other constraints, such as availability of the talented people needed to enable growth. Does anyone honestly believe Google could triple the size of its employee base and maintain the current level of quality of its staff? Take a look at what the Indian I.T. outsourcing firms are going through in trying to find talent if you want a corollary.

This is all off topic relative to my primary point, however. A more appropriate valuation methodology is to do a long-term discounted cash flow analysis on Google’s cash-basis earnings. A somewhat simpler method is to project Google’s earnings at a point in the future when its growth stabilizes to a more reasonable long-term rate, apply a fair multiple to those earnings to arrive at a reasonable stock price in the future, and then discount that price backwards at some fair discount (i.e., interest) rate to arrive at today’s price. For example, say Google reaches maturity in five years with $12 billion in pre-tax earnings, which is about 10x what the company will earn in 2005 – an optimistic number, but let’s run with it for the sake of this example. Assuming a 35% tax rate, we then get $7.8 billion in net earnings. Assuming Google can still grow at 10%-15% for a few years after that, let’s then value those earnings with a 20 PE. That gives us a market cap in 5 years of $156 billion. Let’s then assume that a rational investor today would be willing to accept a 9% return on his investment in Google. (Personally, I wouldn’t be satisfied with that, as I believe Google is a much riskier proposition than that.) So, we then discount that $156 billion back 5 years at 9%, which gets us to a market cap today of $101 billion. This is somewhat less than today’s actual market cap of about $110 billion. Under very favorable assumptions, the stock is looking pretty fully valued right now. Without going into more calculations, it’s fair to say that if Google misses a beat somewhere along the way, the stock would be quite vulnerable. Merely changing the discount rate to 12% gets us to a theoretical valuation of $88 billion -- a 20% discount off of today's actual market cap.

Clearly, Google was a steal at its $85 IPO price. However, only time will tell what kind of value is represented at $400. Personally, I think any buyers beyond the current level are just playing the "greater fool" game.

[Ed]

How can Google be worth 25 Billion more thanTime Warner or 50 B more than DISNEY. Makes no sense, which is why insider's are selling like crazy. They even warned on their Quarterly report yesterday. Why so high, pumping up by media & google itself.

[Vaughn Winter]

The first stage of a £150m investment in regional museums is praised for boosting visitor numbers.