Google's Recent Quarter

Jul.23.06 | About: Alphabet Inc. (GOOG)

brian bolan picBrian Bolan, research analyst at Jackson Securities, recently published a note to clients on positive trends he sees emerging from Google's (NASDAQ:GOOG) recent earnings report, especially Google's increased efforts in the area of mobile search. Highlights follow:

Going Mobile

We were pleased to hear more about mobile search and the company’s efforts in that space. As we noted in our initiating coverage piece on 6/26/06, we believe that mobile search will be a key piece to the puzzle in the coming years.

On the call, management noted they are bringing more product to mobile phones. Larry Page further noted that there are at least twice as many mobile phones than PCs in use globally and mobile usage is growing faster than PCs.

Key highlights from the conference call concerning mobile search:

* The company wants to make the Google experience device independent.
* Maps for Mobile launched in several countries in the quarter and there were positive results coming from Japan where the product has been available since April of this year.
* KDDI in Japan was singled out a few times on the call as an example of mobile delivery of advertisements.
* Search on a mobile is much different than browsing, as users are looking for specific information, which exacerbates the need for highly targeted ad placement.

Taxation

The tax rate for the quarter came in at 26.1%, well below our estimate of 31%. Should we have been a little more clairvoyant and estimated the tax rate at 26.1% we would have boosted our EPS estimate to $2.37 instead of the $2.24, an increase of $0.13 per share.

The company noted on the conference call that the tax rate for the year is likely to be 30% or below. After posting a tax rate of 26.9% in the first quarter, the average for the first half comes to 26.5%. We note that the company has already had its tax rate gaffe back in 4Q05, where confusion over the tax rate led to a sell off in the stock.

This 30% or below estimate is one that causes us a bit of concern and as we noted above, it could be a material difference. We plan to discuss this topic with the company when we speak with them next but also understand the topic is one that is very fluid. After all, taxes are more of a necessary evil than a key component of valuation of a stock.

CapEx

There was a lot of time spent on CapEx and how a substantial portion of the nearly $700M in the quarter was spent on real estate. Approximately $319M was spent on real estate purchases in the quarter. Other areas that saw and will see more spending include staffing in Sales and marketing and continued increases in research and development. On the international side of the equation, we expect more hiring in India and Ireland as Google moves to maintain its position in those markets.

The company noted its strategy for data centers was more of a build vs. lease proposition, with the company preferring the build side of the equation. We note that it is no secret that Google builds most of its own computers and servers and that it is the largest non-PC making consumer of semiconductors. As far as real estate is concerned, the company also prefers buying to leasing, as it hopes to reduce overall costs over time.

Valuation

We are encouraged by the results Google posted, and will be updating our model this week. We anticipate that our estimates will move higher due to the strength of this quarter, although the tax issue and higher TAC remain secondary concerns. We maintain our BUY recommendation and target price of $500.

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