Google (NASDAQ:GOOG) (NASDAQ:GOOGL) is trading just shy of a market capitalization of $387 billion at the time of this writing, one of the largest US-traded stocks out there. For a company this big to grow revenue 22% in its second quarter, which it reported Thursday, is quite the feat.
The firm's non-GAAP operating income came in at $5.14 billion, showcasing a 32% margin, up from $4.21 billion, matching the pace of growth on the top line. Non-GAAP earnings per share in the second quarter of 2014 was $6.08, compared to $4.96 in the second quarter of 2013, representing year-over-year growth just slightly higher than the 22% mark. Google is simply executing fantastically, and we continue to like its shares in the Best Ideas portfolio.
Though Google continues to pursue discretionary capital investments (cash use), the company's cash flow profile remains iron-clad. Net cash provided by operating activities in the second quarter of 2014 totaled $5.63 billion, compared to $4.71 billion in the second quarter of 2013. And as of June 2014, cash and cash equivalents totaled $61.2 billion, compared to $58.7 billion as of December 31, 2013. Its total debt position stood at $5.2 billion. The competitive environment remains fierce, particularly with Facebook (NASDAQ:FB), Twitter (NYSE:TWTR), and the struggling Yahoo (NASDAQ:YHOO) all vying for consumer online advertising dollars; but Google's search presence remains impenetrable.
Examining the Valuation Case
The valuation case for Google is relatively straightforward. We expect the firm to earn close to $26 per share in earnings this year and more than $30 per share in 2015 (both are non-GAAP measures). Backing out the company's $56 billion net cash position leaves a market cap of $331 billion on the operating assets of the business. Our non-GAAP net income forecast for 2015 is ~$20.8 billion, which would value Google at ~16 times forward earnings, excluding net cash.
For a firm growing as fast and generating as strong of cash flow as Google, we think the company should fetch a much higher multiple. This mispricing is what our discounted cash flow process picks up, as it recognizes the inherent value of the net cash position on the balance sheet. Our fair value estimate of Google is $647 per share.
Google has a strong future in search - both on the desktop and via mobile devices - and the firm has a deep bench to replace departing sales chief, Nikesh Arora. The company recently announced that it will sell Motorola Mobility, a value-creating move, as it can now allocate more capital to high-return opportunities or new concepts, such as self-driving cars, Glass, Fiber, or other innovative ideas. We like its valuation, growth potential, cash-flow generation and competitive profile. Very few firms are more attractive on a fundamental basis. We expect to maintain our weighting of the firm in the Best Ideas portfolio in light of the strong performance.
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. GOOG is included in the Best Ideas portfolio.