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Summary

  • Google’s price to free cash flow ratio is at 1 and 5 year highs.
  • However, it remains well within its 10 year range.
  • We believe Google still has vast growth potential and could show strength going forward.

Google's Price To Free Cash Flow

The chart below shows Google's (NASDAQ:GOOG) price to free cash flow ratio over the last year. Looking at the chart, investors may be slightly concerned that the company's price to free cash flow ratio is at the upper end of its one year range. Indeed, Google's price to free cash flow ratio has ranged from a low of just over 23 to a high of around 37, with it currently sitting just 2.5% below its high. It could, therefore, be reasonable to suggest that Google's current share price has gone as far as it should go, and that a short term pullback is due to take place.

GOOGL Price to Free Cash Flow (<a href=

GOOGL Price to Free Cash Flow (NYSE:TTM) data by YCharts

This viewpoint is backed up by looking at Google's 5 year price to free cash flow chart. It shows that the 1 year chart (above) does not highlight the sheer scale of the highs Google's price to free cash flow ratio has reached over the last year, as a booming wider index has helped to push valuations ever higher. Indeed, over the last 5 years, the ratio has ranged from a low of just over 15 to the recent high of 37. As with the one year chart, this points to a possible pullback in Google's share price in the short run.

GOOGL Price to Free Cash Flow Chart

GOOGL Price to Free Cash Flow (TTM) data by YCharts

However, looking a little further back highlights just how much further Google's share price could still go. Sure, the company's a little more mature than it was 6 or 7 years ago, but we feel it still has the potential to head back to far higher valuations than at present. Indeed, it's been there before, as the chart below shows Google was trading on a price to free cash flow ratio of over 100 back in 2007.

GOOGL Price to Free Cash Flow Chart

GOOGL Price to Free Cash Flow (TTM) data by YCharts

For us, Google may be a mature company, but it still has vast growth potential and we feel that is the key for its valuation (and share price) to move higher. For example, we're impressed with the sheer scale of Google's diversity away from online advertising. To us, this seems like a great idea since the cost per click metric is showing signs of weakness and, although total revenue from advertising is up, it seems sensible to try and rely less on this space going forward.

So, Google's acquisition of the streaming music service, Songza, seems like a logical move and is Google's latest action towards becoming a bigger player in the online music business. The company hopes to integrate Songza into its existing streaming music services, Google Music, over the coming months. The acquisition was made shortly after Apple purchased Beats, although it didn't receive the same level of airtime. Despite this, the acquisition could be highly significant as Google looks to increase its exposure to the online music industry, which it could be argued began with its acquisition of YouTube in 2006 for $1.65 billion.

So, while Google is mature, we feel it has enough new projects coming on-stream that could help it to deliver future growth. As such, we feel that a price to free cash flow ratio that breaks out of the one year and five year ranges is entirely achievable going forward.

Conclusion

Google's price to free cash flow ratio may be at the upper end of its one and five year ranges, however we believe there is an alpha opportunity going long. That's because Google's price to free cash flow ratio has been much higher, as shown in the ten year chart, and we feel that Google remains a company with significant growth potential. As such, we remain bullish on the valuation and share price going forward.

Feedback Request: What do you think of Google? Would you buy, sell or hold right now? Please comment below!

Source: Is Google Now Overpriced?