Google: Under pressure
After Yahoo!'s solid 1Q results, Wall Street's already high expectations for Google just got a little higher.
NEW YORK (CNNMoney.com) – Yahoo! matched Wall Street's earnings expectations for the first quarter Tuesday and was rewarded by investors. But the pressure is on Google to do more than just meet estimates.
Yahoo! also reported sales that were slightly higher than expected for the first quarter, and issued revenue guidance for the second quarter that was roughly in line with what Wall Street was expecting.
"With Yahoo! having a solid quarter, the expectations for Google have come up a bit," said Martin Pyykkonen, an analyst with Hoefer & Arnett.
According to estimates from First Call, analysts expect Google to report sales, excluding traffic acquisition costs (or TAC) that the company shares with advertising partners, of $1.44 billion, up 82 percent from a year ago.
The consensus earnings estimate is $1.98 a share, up 53 percent from the same period last year. This estimate excludes the cost of stock-based compensation and some other charges.
High hopes for strong sales growth....
This is an important quarter for the company since shares of Google have been whipsawed during the past few months. The stock plunged more than 20 percent during the first two weeks of February following its fourth quarter earnings miss and some embarrassing investor relations gaffes.
But the company's stock has bounced back during the past few weeks thanks to optimism about first-quarter results, as well as the news that Google was added to the benchmark S&P 500 index.
Since Standard & Poor's announced in late March that Google would be added to the S&P 500 (it was officially added on March 31), the stock is up 20 percent. Yet, the shares are still trading about 14 percent below their all-time high, set in mid-January.
Google - along with Yahoo and other firms that depend on Internet ad sales for the majority of their revenue - have benefited from strong demand for online advertising, particularly for ads tied to specific keyword queries on search engines.
And there has been growing evidence that Google is continuing to gain market share in search from Yahoo! and other rivals such as Microsoft's (Research) MSN and IAC/InterActive's (Research) Ask.com. That has helped fuel excitement about Google's results.
With that in mind, Stewart Barry, an analyst with ThinkEquity Partners, said that Google will need to do more than just beat sales expectations by a small margin as Yahoo! did. He said another reason investors are expecting such a strong quarter from Google is because the company recently completed a secondary offering of 5.3 million shares.
Barry argues that the company would probably not want to issue new stock so soon before announcing results if it thought that Wall Street would not react well to the earnings report.
"Expectations are high for Google. They have been showing strong share growth in search queries," he said. "And investors feel that since they just completed a secondary offering they are probably going to put up a really good quarter."
Investors are also hoping to see Google return to form this quarter since the company missed earnings expectations when it reported fourth quarter results in January. That was the first time in the company's short history as a public company that it failed to surpass Wall Street's consensus estimates.
"For the first time in its history, Google's a show-me stock," Pyykkonen said. "Investors are expecting a clear rebound from the miss in the last quarter. That's the mind set."
...but could taxes and investments whack profits?
One reason the company missed projections for the fourth quarter - and by a wide margin to boot - was because the company's tax rate for the quarter was much higher than analysts were expecting.
Analysts said they hope that Google does not surprise them with a higher tax rate this time around. But Barry said that other factors, namely Google's heavy capital spending on new products and services, could wind up hurting near-term profits.
"The question is, how expensive are all the investments they are making and what that will do to the bottom line," he said.
Investors will also be interested to hear about what, if anything, Google plans to do to fend off increased competition in search. MSN is making a bigger push to attract marketers with its new adCenter program.
And Yahoo!, during its first-quarter conference call Tuesday, discussed changes that it is working on to its search platform. The company hopes to roll out new search technology later this year in order to improve the relevancy of its results and attract higher rates from advertisers.
But Mark Stahlman, an analyst with Caris & Co., said that he sees no reason why Google will lose its lead to Yahoo! any time soon since its search technology is superior.
"Yahoo! still has only a small fraction of the engineering talent that Google has, so will they ever be able to reverse the trend of market share loss?" Stahlman said. "I think Google will continue to gain share and become more dominant in the lucrative ad search business."
Still, some investors have expressed concern that Google is too dependent on search, questioning whether or not Google will be able to succeed in some of its diversification efforts.
The company has introduced several new products lately (a finance Web site and online calendar for example) that make it look more like an Internet portal such as Yahoo! or Time Warner's AOL. (Time Warner (Research) also owns CNN/Money.com.)
"Google is such a strong brand in search and it's unclear whether that association has as much currency with Internet users. It's also unclear whether other products are as good vis-a-vis the competitive offerings," Barry said.
That said, Barry thinks that Google has more room to grow in search, particularly in markets outside of the U.S. So Google's international sales will be another area that investors will be paying close attention to, especially since Yahoo! reported strong results from its international operations.
Yahoo! said Tuesday that revenues from outside the U.S. grew 41 percent from a year ago after adjusting for currency fluctuations, outpacing the company's overall sales increase, excluding TAC of 33 percent.
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Analysts quoted in this story do not own shares of the companies mentioned and their firms have no investment banking ties to the company.