Big Results At Google Fall Short
"After astounding Wall Street with its incredible growth, Google yesterday learned the perils of high expectations. An earnings increase that fell shy of investors' hopes sent its shares plummeting.
Google's stock fell almost 20 percent immediately after the announcement, made after the close of regular trading, then recovered somewhat. By evening it was down about 12 percent from yesterday's close, trading around $379.
Only three weeks ago, at its high-water mark, the stock reached $475.11. It has still been less than a year and a half since the company made its initial public offering at $85 a share.
Safa Rashtchy, an analyst with Piper Jaffray & Company, attributed yesterday's decline to ''momentum investors'' who had been betting that Google would continue to surpass published estimates.
''This is one of the biggest momentum stocks there is,'' Mr. Rashtchy said. ''They said this stock should be growing even faster. And when it doesn't, they just get out.''
For any other company, the results announced yesterday would be impressive. Google said it earned $372 million in the fourth quarter of last year, up 82 percent from the year before.
But the enormous valuation of Google is based -- to the extent it has any rational basis -- on predictions that it will continue to grow very rapidly, extending its success in Internet advertising to other Internet services and other forms of advertising. Signs of even a modest slowing in that expansion, relative to investors' expectations, could have a large impact on Google's share price.
Google's aura of infallibility, moreover, has been clouded on other fronts in recent weeks. The debut of its video download store met with critical reviews. And its decision to introduce a Chinese service that filters out content objectionable to the Chinese government raised questions about its commitment to its informal slogan, ''Don't be evil.''
Google has been insistent about doing things its own way, and yesterday's surprise may be a consequence of its unusual policy of not providing guidance to investors about its anticipated financial results. Its shortfall was largely the sum of several modest drags to its results -- developments that many other companies might have warned of in advance.
Its revenue internationally was hurt by a strong dollar. Its tax rate was higher than expected. And expenses increased faster than anticipated, especially as the company expanded its sales force overseas.
All told, its quarterly earnings came to $1.22 a share. Excluding some special items -- including $58 million in stock-based compensation, and a $90 million contribution to the Google foundation -- Google earned $1.54 a share, far below the $1.76 a share that analysts had expected.
The company's revenue was $1.92 billion for the quarter, up 86 percent. Excluding payments to other Web sites that display ads that Google sells, the company's revenue was $1.29 billion. That matched analysts' published estimates but was shy of the number anticipated by investors, said Jordan Rohan, an analyst with RBC Capital Markets.
''Consensus expectations are not reflective of the hopes and dreams of Google investors,'' he said.
In an interview, Eric E. Schmidt, Google's chief executive, dismissed the minor added expenses and the lower foreign income and emphasized the company's vast potential.
''We actually think we had a strong quarter,'' he said. As for Wall Street's reaction, he added, ''It is a mistake for the C.E.O. of a company to talk about its stock price.''
He did say, however, that the gap between the company's reported profits and analysts' expectations could be attributed almost entirely to the increased tax rate, which stemmed from a shift in expenses overseas -- where tax rates are lower -- that accordingly increased the portion of its income subject to the higher tax rates of the United States.
Mr. Schmidt said that in general the company would not change its longstanding policy against providing guidance because ''it is hard for us to forecast results quarter over quarter.''
Still, in a modest change, Google did project that its tax rate for 2006 will be 30 percent (compared to 32 percent last year). It also provided an estimate that its stock grants to employees will dilute its earnings per share by 1 percent to 1.5 percent.
''We had a big argument about this,'' Mr. Schmidt said about whether Google should provide any information to help analysts forecast its results. ''It's not fair. We have all these nice people trying to build models, and they can't get them even close to right unless we give them the tax rate.''
Mr. Schmidt also said that Google's revenue grew 22 percent over the third quarter, an acceleration from the 14 percent increase of the third quarter from the second. The reason, he said, was an increase in the number of searches on Google and in the revenue earned from each search.
Mr. Rashtchy, the Piper Jaffray analyst, said he remained among Google's believers. Google's results did not indicate any fundamental problems with its business, he said, and provided no reason to change his own target price of $600 a share. That is based on his expectations that Google's shares will ultimately trade for 50 times his estimate of its 2007 profits. (Mr. Rashtchy owns no Google shares; Piper Jaffray has done investment banking work for the company in the last year.)
Mr. Rohan, by contrast, said ''the stock reaction makes sense'' because it appears that Google's growth internationally may be a little bit slower than previously expected. As a result, he is likely to reduce his long-term forecasts for the company slightly.
''This company will only be extraordinary, not extraordinary and spectacular,'' he said.
Even with yesterday's after-hours decline, Google's stock is worth about $112 billion, more than any other media company in the world. That is down from $140 billion on Jan. 11, just before Yahoo -- its main rival -- also announced disappointing earnings.
The largest one-day drop in Google's stock in regular trading came on Jan. 20, a decline of 8.5 percent in a broad market sell-off. That was also a day after Google announced it would not comply with a request from the Justice Department for a sample of its users' search-query data, part of a government effort to uphold a law restricting online pornography.
The glamour stocks of the first Internet wave experienced even greater volatility. As that wave was receding in 2000, companies including eBay, Yahoo and Amazon all had one-day declines of more than 20 percent in their share prices.
Yahoo, which is only growing half as fast as Google, disappointed investors two weeks ago when it said that it had fallen behind in efforts to develop technology that would increase the ad revenue it earns from each search. Search engines are paid only when users click on the ads, and Google is an acknowledged leader in software that determines which advertisements to display."