Why I’m Not a Buyer of Google’s Stock

Since the release of the iPhone in 2007, I have focused a large percentage of my investing dollars in stocks in the mobile industry. Initially, I traded the device makers Apple, Nokia and Research in Motion.  My love (mostly) hate relationship with RIMM is well documented on my blog.

After reading the Morgan Stanley Internet Report in December of 2009, my emphasis shifted to identifying companies that I believed would fail to make the transition from “old school” cell phones to mobile computing.   My article “The Four Mules of Mobile” initiated months of “debates” on whether certain companies would crash and burn.  I am currently not short any companies, so there is no need to get riled up about me hating on your favorite device maker.  I am now on the third permutation of my mobile strategy that was outlined in my blog “Mobile Stocks that Got Game.”

Over this 3 year period I can’t recall owning Google for more than a week or so here and there.  Google is without a doubt a major force mobile.  Android is growing like weeds.  So, how can a mobile strategy not include Google?  The bottom line is that not all great companies have great performing stocks.  Since January 3, 2007 to date Google is up 28%.  That’s a little over 9% per year.  That’s better than a sharp stick in the eye, but  that doesn’t make my cut off. As a stock trader, I have one requirement for my portfolio companies – its stock must go up A LOT!

There is something that has always bugged me about Google.  It has nothing to do with P/S, PEs or anything like that.  It’s that 99% of the people that use Google products pay absolutely nothing to use it [99% is an exaggeration].  I realize that Google is a very profitable company and generated $8.4 billion in revenue last quarter.  However, I believe with so few people paying to use Google products it inhibits the company’s ability to maximizing profits.

Eric Schmidt, CEO, once rhetorically asked “If we have a billion people using Android, you think we can’t make money from that?” All it would take, he said, is $10 per user per year. In my previous life, I worked as a software sales guy for a high tech company.  There was absolutely nothing in the world harder than increasing the price of a product.  Customers hated it.  I don’t believe a $10 user fee would generate the $10 billion business as Schmidt suggests.

In contrast, Apple generated a $10 billion dollar iPad business almost overnight.  While Google suggests, Apple executes.  I believe that Google’s stock price is going to continue to disappoint until it proves that can create other multiple billion dollar business units other than search.  In the mean time, there is absolutely no reason for me to tie up capital in Google while it gets its act together.  The opportunity costs are too high.

Disclosure:  Long AAPL.

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  • Michael,

    Good stuff, but people DO ‘pay’ for Google services – with their attention to their advertisers. It certainly worked on the web and has yet to do so on mobile, which is their big bet right now.

    It’s always fun to compare Apple & Google, but while they overlap in many respects, they have VERY different approaches to market & revenue models.

  • CapitalObserver

    Google does not intend to charge $10 a user but to generate it through advertising or commissions through an app store etc. Those advertising dollars would have huge profit margins for Google, while selling devices has much smaller margins. That said, I have no opinion on Google stock at current prices.

  • I look forward to one day reading the Harvard business case, but in the mean time a man gotta eat.

  • Their success on the web – also ‘free’ – produced many nice meals. We’ll see if they can replicate it on mobile. First you need to build audience, which they’re doing a pretty good job of.

  • Yeah, echoing CapitalObserver on the point about Google’s plan to extract $10 in rev from Android users — it’s based on expected advertising revenues. They aren’t talking about charging a license fee for Android.

    Moreover, $10/year in advertising per user is actually being realized faster than they had hoped. Based on the numbers out recently, they’re more or less on track to hit the target by end of *this year.*

    And, I’m assuming the $10 estimate was just a low-ball swag by Schmidt to illustrate the longer-term potential of their penetration pricing strategy… since they’re already almost there with such an immature mobile advertising market, and with NFC/payments in an embryonic stage, I think it’s likely they’ll actually realize revenues much higher than $10/user/year before that number starts to stabilize.

    So, unless you believe they are going to suddenly fall off of the adoption trajectory their currently on, I think you need to re-evaluate your valuation of Android’s potential to contribute to Google’s business.

  • Also, regarding:

    “It’s that 99% of the people that use Google products pay absolutely nothing to use it [99% is an exaggeration]”

    You could make the same argument about the wildly profitably broadcast television businesses during the first several decades of the TV era. ABC, NBC, CBS, and FOX all broadcasted their content over the airwaves, free to anyone with a TV and a set of bunny ears. Even without a way for the audience to respond directly to the advertising, and with no real methods for direct measurement, these companies raked in tens of billions in profits for years and years.

  • Great post!
    However I’m going to have to disagree with the main points brought up here.

    1. Google is only using Android the same way it is using Chrome(web-browser), to redirect users back to Google.com or to other Google sites so that people are exposed to Google Ads. That being said, Google will find it hard to charge a fee for Android users, because it would definitely hurt the core business (using Google.com and Google sites).

    2. Google announced that it is raising the base salary by 10% and its also increasing headcount by 25%. There is a 94% Correlation between revenue growth and growth in work force (2005-2010) (Credit Suisse Equity Research)

    3. AdSense revenues have gone up tremendously from mobile platforms ever since Android was introduced which shows that their bet on free OS distribution is paying off.

    All in all, Google is a very indirect mobile-phone play (because its income from mobile platforms lags behind the actual sale of an Android product). It has a lot of running room because it has positioned itself as a leader in Internet advertising and it has the ability to have people stay on its web-sites…meaning people are spending longer time being exposed to Google Ads. Android is something supplemental that allows more exposure time to Google sites.

  • Baa!

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  • Maksym Rymar

    Google does not intend to charge $10 a user but to generate it through advertising or commissions through an app store etc. Those advertising dollars would have huge profit margins for Google, while selling devices has much smaller margins. That said, I have no opinion on Google stock at current prices.