Google Is Well Prepared For The Second Quarter

Jul.11.14 | About: Alphabet Inc. (GOOGL)

Summary

Google is well prepared for the second quarter and it is likely to report solid results due to a solid increase in paid searches.

The average target price of $658.83 will give rise to an upside potential of 14% to its current price.

The market is confident that Google's second quarter results will be strong enough to impress investors.

With the start of fiscal year 2014, Google Inc.'s (GOOG, GOOGL) shares have been showing slight volatility. In the first three months of 2014 the stock price showed a solid upward trend and the stock price reached $616.07 in the first week of March 2014. However, due to slower than expected earnings growth, the stock price began to decline and reached its year-to-date lowest level of $518 in the first week of May 2014. Currently the stock is trading at $578.4 and now the company is set to release its second quarter earnings for fiscal year 2014. Analysts' are expecting a solid performance and this is driving the stock price higher. With the expectation of a strong performance backed by the solid trend in paid searches, the stock price is likely to show an upward trend. The average analyst target price for Google is $658.83 which will give rise to an upside potential of around 14% to its current price.

In Google's first quarter for fiscal year 2014, the company reported slower-than-expected growth in revenues and profits grew a modest 2.9% in the first quarter. Analysts expected Google to earn $6.42 per share but the tech giant delivered earnings per share of $6.27 and this caused the share price to dip. Google's stock has underperformed so far this year because of some concerns regarding the company's performance. In Europe, Google had to start scrubbing search results to deal with privacy concerns. Another factor was the stock split which firmly consolidated power in the hands of Google's founders. And of course, Google experienced disappointing results for the second quarter due to increasing pressure on its ads business.

Google is Well Prepared for The Second Quarter

Google is well positioned to benefit from continuously increasing internet spending. On the other hand, the company is also facing stiff competition from Facebook (NASDAQ:FB) in the ads business. Despite this pressure, Google's diversification will help the company to grow into different directions of the market which in turn will also increase its earnings stream.

The market is confident that Google's second quarter results will be strong enough to impress investors. This is quite evident from the fact that last year, global mobile ad spending increased 105% to $17.96 billion, according to the research firm eMarketer. In the current year, mobile advertising is on the pace to rise another 75.1% to $31.45 billion. Google and Facebook are the main players in the digital ads market and these two companies also accounted for a majority of the mobile ad market growth last year. Combined, these two companies saw a net mobile ad revenues increase of $6.92 billion, claiming 75.2% of an additional $9.2 billion that went towards mobile ad revenues in 2013.

Facebook is particularly gaining significant market share due to its strong user base. In 2012, the social network accounted for only 5.4% of the global advertisement market which increased to 17.5% in 2013. Google still holds a major portion of the market which was around 50% in 2013, but the rapid growth of Facebook will create intense competition for Google. However, Google's growth is going nowhere and the latest statistics reveal that Google will post solid earnings for the second quarter. According to a report, the paid search trend has been growing strong in the recent quarters. The search and digital marketing agency Rimm Kaufman (RKG) saw a 24% year-over-year growth and a 27% quarter-over-quarter increase in paid search spending during the second quarter. Another search marketing agency, Covario, experienced a 20% year-over-year growth reflecting a slight decline from the first quarter's 25% growth in the previous quarter.

According to RKG, Google alone saw 24% year-over-year growth and 25% quarter-over-quarter growth compared to year-over-year growth of 17% in the first quarter. Google's click rose 9% while its cost per click rose 13% year over year. RKG also noted that feedback on Google's product listing ads continues to be positive. The firm noted a 58% year-over-year increase in spending on these ads. Clicks rose 28%, while cost per click rose about 5% higher than comparable text ads. Covario found a 30% increase in product listing Ad spending and a 5% increase in cost per click on the ads. This significant growth will help the company to show significant earnings growth in the second quarter and ultimately Google's share price will move towards its stated target price.

Conclusion

Along with the focus on its ads business, Google is spreading its wings into different lucrative businesses. Recently Google acquired the streaming music service, Songza which is the Internet search company's latest move towards playing a bigger role in the fast-growing online music business. The company intends to incorporate aspects of Songza into its existing streaming music services over the coming months. Google made this acquisition one month after Apple Inc. (NASDAQ:AAPL) acquired Beats and Google's move is evident of the fact that the search engine giant is preparing itself to compete in the online music industry. Previously, Google launched a $9.99-per-month Play All Access subscription music service in 2013 and the company said last month that YouTube was preparing to launch a paid streaming service.

Google's push into different businesses and significant growth in its ad business is the obvious reason to invest in this stock. Based on 2014 earnings forecasts, Google's stock is trading at a forward price-to-earnings ratio of about 18. That may seem a bit high but taken into context, it may actually be fairly valued. Consider the fact that Google traded for a forward P/E of around 20 for much of 2011 and 2012 and that a decade ago its valuation regularly skewed higher. When you throw in the fact that the forward P/E of the S&P 500 is over 16 and the NASDAQ is pushing 18, Google doesn't look so pricey.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Business relationship disclosure: The article has been written by a Gemstone Equity Research research analyst. Gemstone Equity Research is not receiving compensation for it (other than from Seeking Alpha). Gemstone Equity Research has no business relationship with any company whose stock is mentioned in this article.