Why I Bought Google
Yesterday I bought $60,458 (£30,782) worth of Google (GOOG) shares at $476.05. Here's why:
The Employees
Google is renowned for hiring the best-of-the-best when it comes to search algorithms. It's a credit to management that they recognized very early the need to spend heavily on hiring the best. Could a determined Microsoft, with all its cash, end up with better engineers? This seems unlikely. Google has plenty of cash and a willingness to spend it, and can offer stock options with better growth prospects. Also, great engineers prefer working with other great engineers, and for search algorithms that means working at at the Googleplex. Finally, super-engineers just aren't that common: Even if Microsoft hired every graduate with an algorithm PhD for the next decade, the quality of their engineers might still trail Google.
The Algorithm
How do we know Google has the best search algorithm? You can look at its seemingly inexorable market share growth or high revenue-per-click ratio. But perhaps the best way is just to compare the searches you do in Google with other search engines. Google is just better. This points to another reason for buying Google shares: It's very difficult to understand the competitive position of say, Toyota or Citigroup, but with Google it's a snap because you use it every day.
There's another great feature of Google's' search algorithm that is often overlooked: its secrecy. Microsoft has built a reputation for 'coming from behind'. In the past, it could look at a leading product like Lotus 123 or Netscape Navigator and copy the most useful features. But with Google's search algorithm, many 'features' aren't obvious and can't be deduced from the search result.
The Brand
During the dot-com boom, Yahoo spent millions on billboard advertising to ask the question, "Do You Yahoo!?". Unfortunately the world's answer was, "No, We Google". Hundreds of millions of people prefer Google because they have had been impressed by a previous search experience. This has led Google to be the most valuable brand in the world. Even if Microsoft or Yahoo could produce a search engine as good as Google, they would struggle to gain market share.
Other Strengths
I believe Google has plenty of room to improve their search and advertising algorithms. For example, they recently introduced the 'Conversion Optimiser' tool. One user noted:
Lastly, let's not forget that the search engine industry has a nice little tailwind: the online-advertising pie continues to expand as internet use grows.
A Few Negatives
Could a new way of searching for information blow away Google's advantage? Perhaps a couple of researchers will create a neural network algorithm that leapfrogs Google. Perhaps one day search engines will have to offer huge cash prizes to prevent users from switching to competitors. Or some other 'paradigm shift' could befall the search market. Or maybe the secrecy of Google's search algorithm becomes compromised, seriously weakening their competitive position without them even knowing it. All these risks, while unlikely, are difficult to evaluate.
Is It Worth The Price?
Google's Price/Earnings ratio is around 35. What kind of growth would justify that? I think a reasonable earnings growth projection would be Year 1, 25%; Years 2& 3, 20%; Thereafter 15% p.a. On this basis the P/E looks good.
Google is also sitting on a huge pile of cash - perhaps as much as 10% of its market cap could be distributed to shareholders.
Lastly, there is what I call the Google Fat: A third of employees don't work on search or advertising and are making very little money for the company. At some point either projects like Google Docs will start turning a profit or management will wake up and eliminate this expense.
- Strength of Brand 10/10
- Level of Debt 10/10
- Quality of Management 8/10
- Price 8/10
The Employees
Google is renowned for hiring the best-of-the-best when it comes to search algorithms. It's a credit to management that they recognized very early the need to spend heavily on hiring the best. Could a determined Microsoft, with all its cash, end up with better engineers? This seems unlikely. Google has plenty of cash and a willingness to spend it, and can offer stock options with better growth prospects. Also, great engineers prefer working with other great engineers, and for search algorithms that means working at at the Googleplex. Finally, super-engineers just aren't that common: Even if Microsoft hired every graduate with an algorithm PhD for the next decade, the quality of their engineers might still trail Google.
The Algorithm
How do we know Google has the best search algorithm? You can look at its seemingly inexorable market share growth or high revenue-per-click ratio. But perhaps the best way is just to compare the searches you do in Google with other search engines. Google is just better. This points to another reason for buying Google shares: It's very difficult to understand the competitive position of say, Toyota or Citigroup, but with Google it's a snap because you use it every day.
There's another great feature of Google's' search algorithm that is often overlooked: its secrecy. Microsoft has built a reputation for 'coming from behind'. In the past, it could look at a leading product like Lotus 123 or Netscape Navigator and copy the most useful features. But with Google's search algorithm, many 'features' aren't obvious and can't be deduced from the search result.
The Brand
During the dot-com boom, Yahoo spent millions on billboard advertising to ask the question, "Do You Yahoo!?". Unfortunately the world's answer was, "No, We Google". Hundreds of millions of people prefer Google because they have had been impressed by a previous search experience. This has led Google to be the most valuable brand in the world. Even if Microsoft or Yahoo could produce a search engine as good as Google, they would struggle to gain market share.
Other Strengths
I believe Google has plenty of room to improve their search and advertising algorithms. For example, they recently introduced the 'Conversion Optimiser' tool. One user noted:
Google needs to know exactly how much a conversion is worth to me. That would, theoretically, allow them to achieve the holy grail of monopolies: perfect price discrimination.They also have access to sources of data unavailable to their competitors, among them the stream of Google search queries themselves. Then there's the fact that Google is effectively a monopoly - millions of consumers only search on Google, so advertisers have to pay the Google tax if they want to reach their audience.
Lastly, let's not forget that the search engine industry has a nice little tailwind: the online-advertising pie continues to expand as internet use grows.
A Few Negatives
Could a new way of searching for information blow away Google's advantage? Perhaps a couple of researchers will create a neural network algorithm that leapfrogs Google. Perhaps one day search engines will have to offer huge cash prizes to prevent users from switching to competitors. Or some other 'paradigm shift' could befall the search market. Or maybe the secrecy of Google's search algorithm becomes compromised, seriously weakening their competitive position without them even knowing it. All these risks, while unlikely, are difficult to evaluate.
Is It Worth The Price?
Google's Price/Earnings ratio is around 35. What kind of growth would justify that? I think a reasonable earnings growth projection would be Year 1, 25%; Years 2& 3, 20%; Thereafter 15% p.a. On this basis the P/E looks good.
Google is also sitting on a huge pile of cash - perhaps as much as 10% of its market cap could be distributed to shareholders.
Lastly, there is what I call the Google Fat: A third of employees don't work on search or advertising and are making very little money for the company. At some point either projects like Google Docs will start turning a profit or management will wake up and eliminate this expense.
posted by Mr Investor at 2:54 PM
0 Comments:
Post a Comment
<< Home