Web.com - Google's Announcement Triggers An Unavoidable Sell-Off

| About: Web.com Group, (WEB)


Web.com loses a fifth of its market value after Google contemplates entering the market for domain names.

A potential entry of the search giant would have potentially devastating implications.

Irrelevant of the decision made by Google, shares of Web.com are expensive given the lack of earnings, high debt and low entry barriers.

Shares of Web.com (WWWW) took a tumbling on Tuesday after Google (NASDAQ:GOOG) said it is testing technologies and services to find and register internet domain names.

If Google were to offer these services, it has the ability to reach many more customers while it can easily undercut pricing of Web.com. This could have potentially devastating consequences for Web.com given the leverage employed, lack of earnings and low entry barriers.

Therefore, I continue to avoid shares of Web.com, whether Google enters the industry or not.

A Direct Attack

The potential entrance of Google in the field of domain name registration is a direct attack for Web.com, which is scaring investors given the inferior resources compared to its bigger counterpart. Shares of Web.com fell 20% on Tuesday, but traded with even bigger intra-day losses.

The move by Google is aimed to directly attract more consumers and small businesses to its services. Note that the strong earnings and financial position allows the company to "experiment" in many places in which appear to be unrelated industries like space travel, self-driving cars and automated homes.

The extension into the corner of domain registration is important given that it is the starting place for businesses being online. Google can more easily integrate related services to small business owners as well, including of course AdWords.

Besides Web.com, the privately-held GoDaddy might suffer as well. The other competing domain name registration firm aims to go public later this year and the news could have some serious implications for its offering.

Web.com Issues The Standard Statement

In a reaction, Web.com says that revenue growth will be driven by "differentiated offering of value-added services."

Web.com is furthermore confident in the focus on direct relationships with customers. The company furthermore notes that it has been successful in a competitive environment, continuing to compete to acquire domains for small businesses.

In all fairness, this appears to be a standard and weak counter-argument, especially if Google starts a price war.

Google Is Moving Markets

Google's announcement was not bad for everyone involved. Website-building company Wix.com (NASDAQ:WIX) jumped following the news, as it will collaborate with Google in its potential ambitions. Ties have been built with other names as well including the likes of Squarespace, Weebly and Shopify.

The size and importance of Google continues to increase and can send shockwaves with many businesses relying on visitor streams to their e-businesses driven by Google's search algorithms. Changes in these have had pronounced impacts on many businesses, even including the likes of eBay (NASDAQ:EBAY) recently.

But Does Not Always Succeed

While it appears that everything, which Google touches changes into gold this is not the case. Besides the "failed" attempt to build hardware phones the company has seen multiple other applications and services fail. Some of these include, Buzz, Google Talk and Zeitgeist, among many others.

Shares of Yelp (NYSE:YELP) have seen their portion of fear as well with investors anticipating Google to dominate the reviews space for small and medium businesses, something which has not happened to date.

However, given that domain registration typically cost money, although not so much, Google can easily afford to undercut competitor's prices by a huge margin, which might be important in the potential success of a move into domain registration.

Web.com's Performance And Valuation

Back in May, Web.com released its first quarter results ending with $15.3 million in cash while operating with a sizeable $560 million debt position.

The company did post a 15.8% jump in revenues which improved to $133.8 million. Web.com managed to post a very tiny profit of $0.5 million compared to a $46.5 million loss last year. In total, the company serves 3.17 million subscribers which generated ARPU of $14.75 per month. Important to notice is that churn was less than 1%, although Google could threaten to increase that number.

The move comes after significant growth in recent times for Web.com. The company posted trailing revenues of little over $500 million at the moment per annum, compared to revenues of just $122.5 million in 2008. The company has been posting losses in recent years, but is on the verge to break-even and report profits going ahead.

Takeaway For Investors

Long-term investors have seen a huge run with shares advancing from just $3 in 2008 to highs of $38 earlier this year. After the correction towards $28 per share, equity in the business is still valued at almost $1.5 billion. Don't forget that the company operates with a rather sizable net debt position as well.

While not all clients will shift overnight, churn rates could definitely increase overnight if Google is serious about its intentions. This would be serious given the lack of earnings, high debt and low entry barriers to the business. Especially if Google aims to aggressively price its services when they go "live," businesses can rather easily save money.

It is hard to estimate whether Tuesday's reaction was appropriate or not, as it is essentially a binary decision to be made by Google. What is clear by now is that Google is looking at the service. Even if the company decides to not pursue the offering of the domain registration services, shares of Web.com remain pricey in my eyes.

I continue to avoid making an investment in Web.com.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.