Does Google Have an Organic Growth Problem?

Google (GOOG) pulled in $5.37 billion in revenues last quarter, and $1.25 billion in net profits (nearly ten times what Yahoo made last quarter). Yet behind the consistently amazing financial performance, a few chinks are beginning to appear in Google’s armor. The biggest one may be the increasing gap between its organic revenue growth and its total revenue growth.

Google does not break out its organic revenue numbers (the revenue from its core businesses, not including contributions from recent acquisitions, or foreign exchange fluctuations). But in a note put out on Friday, Citi analyst Mark Mahaney gave his estimates of Google’s organic revenue growth. He warns, “We have seen steady and material deceleration in GOOG’s organic revenue growth,” and he expects that trend to continue in the third quarter as well. (Even so, he still reiterates his buy rating on the stock).

I’ve put his organic growth rate estimates together with Google’s reported total revenue growth rates for the past four quarters in the chart and table above. In the third quarter of last year, both growth rates were the same: 57 percent. By the second quarter of 2008, Google’s total revenue growth rate had settled down to 39 percent, but its estimated organic growth rate was significantly lower, at 32 percent.

What this suggests is that Google’s core search advertising business may be decelerating faster than a glance at Google’s quarterly income statements would indicate. It also highlights how important it is for its biggest acquisition, DoubelClick, to make up for the slack. And, of course, it would be nice if Google could start making money from its underperforming businesses such as YouTube, Postini, and Google Checkout (some of which, themselves, were acquisitions). Mahaney estimates that DoubleClick contributed $90 million in revenues last quarter, and Postini contributed $25 million.

Update: Here is Mahaney’s detailed analysis.

Original post

Comments

[bonae:]

Google, Inc. in seeking dominance in areas of new media has recently entered into endangering legal precedents governing US Intellectual Property and Brand Identity, this activity together with Yahoo's Yang's recent appology to the compromise of a dissident in Communist China is calling into question if Google, Inc. has the Social Maturity as a Major Corporation in the United States to take excessive market share through the partnership with the other industry leader Yahoo. Google is displaying inappropriate conduct towards the property of their USERS and ADVERTISERS through legal behaviors unbecoming to a US Corporation. These Legal Behaviors are supportive of Confiscation of Intellectual Property for monetization by Google/Yahoo Partners which has openly displayed Sensitivity to Communist over Democratic Philosophy and Values. This will impair Google/Yahoo's standing in US Information Security Management and will be the primary cause in Advertisers to seek out competing search products with greater basis and grounding in American ideals and maturity of managements in ethical conduct. The Google/Yahoo Partnership might ultimately defeat both companies to new innovative competitors with higher standards of ethical conduct with US Citizens Intellectual Property as Google fights over their 'Fair Use' Right to Confiscate Value in US Intellectual Property on which their Advertisers Brand Identity is wholly dependent to sell 'key words' to their competitors. Ultimately US Corporations will recognize this Indifference to the Core Rights and importance of Branding to Products as a Grave and Gathering Threat to the profits of US Companies by Google/Yahoo Partners. The ultimate result will be an Advertiser BACKLASH against Google/Yahoo Partners immature management decissions by major Ad Customers and damage to intellectual property ownership and use precedents recognized by US Information Security Agencies. Thereby causing immediate imparment to both Google/Yahoo Partners and their ability to further grow and potentially retarding long-term growth metrics with grave permanence.

2008 Aug 11 09:06 AM

[LA Tech:]

The basic problem with Google goes far deeper than just numbers.

For example, Google Enterprise is run by a bunch of kids who have zero idea what the hell they are doing. They are terrible overall marketers and even worse product marketers.

Google Enterprise is a division without a clue. Dave Giroud is incompetent and so are his main minions. They have plenty of great services but are not able to make things work. WHY? I believe that Google operates within a bubble and that Google only talks to other Googlers.

Google needs to invest tons of $$ in old fashioned advertising and reseller oriented marketing. Google doesn't have enough resellers out there peddling their wares.

MSFT has over 24,000 resellers nation wide. Google has less than 2000.

MSFT spends billions of $$ on advertising. Google spends ZERO $$ on advertising.

MSFT has years of experience in listening to both resellers and end user customers. Google doesn't like to talk with customers.

Can Google overcome these shortcomings. Yes!

Will they? NO, only because they won't talk to both customers and resellers for it is beneath them to do so.

That is why Google is a one product shop. And will always be that way!

2008 Aug 11 11:45 AM

[wocojoe:]

I believe Investors have placed Google in the wrong sector, for it relys on its core search advertising business for the majority of revenues. Google is the Walmart of Web-Mega-Media Companies, but with no product to sell to the consumer, instead it relys on advertizing dollars to grow just like other media giants. And like the other media giants newprint and TV, Google is subject to the whims of the consumer in a slow economy. To survive in the future, Google has to now come up with more Ad dollars every quarter, just to maintain its growth, which becomes harder and harder so nautrally its growth rate is declining faster than expected. We learn from the past and Googles future is the same as the the newpapers and TVs present.

2008 Aug 11 12:54 PM

[Anand Sanwal:]

Interesting post and analysis by Citi and glad to see you guys picking up on it. We've benchmarked and analyzed the entire S&P 500 (of which Google is a member) on organic revenue generation and efficiency and our #s reveal a similar story, but the picture still is very positive.

In short, we would agree with Citi's analysis that the organic revenue as a % of total revenue for Google as well as a % of total revenue growth is declining over the longer period we studied. As compared to Yahoo (the closest comparable to Google if there is one), you can see however, that Google is destroying their peer from an organic revenue perspective.

Our analysis goes beyond just organic revenue and looks at the efficiency of generating this organic growth, e.g., how much are companies spending to achieve organic revenue growth. We call this efficiency ratio the Organic Growth Multiplier (OGM). The logic behind the OGM is that if one company can spend $1 to get $3 of revenue and another can spend $1 to get $5 of revenue, the latter company is healthier and has more momentum in its business and obviously superior organic revenue generation capabilities.

When we look at the OGM of Google versus Yahoo and versus the larger S&P500 tech financials category, the picture is actually quite pretty for Google. They're tops as it relates to OGM which means a dollar of their investment into their core business generates more revenue than the average tech sector company. They also outshine Yahoo on this count as well.

The indexed OGM for Yahoo and Google over the period from 2003-2007 are 50.9 and 312.84, respectively. Without getting into the quantitative models that underlie this, the point is that Google's organic revenue efficiency is far superior to Yahoo.

Lastly, we've seen that higher OGM and total shareholder return are positively correlated. So that that implies is that having the ability to generate organic growth efficiently is a good indicator of shareholder returns.

While the assertion that their organic revenue is declining does remain true, the news is not as dire as I've been reading elsewhere from those who've picked up on this post. Yes, if they can turn one of their acquisitions into a money maker, this will obviously supplement some of the organic revenue deceleration that might be evident in their historical core business, but on the whole Google is still a star when it comes to organic revenue generation and efficiency. The fact that Citi retains its buy rating despite the organic picture is testament to this.

A bit on the methodology.

There are some notable differences from the Citi analysis which despite the similar conclusions do make our analysis more robust.

1. We've looked at a more extensive time period (2003-2007)
2. We strip out market growth for each company. In essence, if the market is growing at 10% and your company grows at 10%, we don't give you credit for this. This is rising tide growth and is not due to management's actions and investments in the core business. Organic revenue, therefore, in our models is only the growth we can attribute to management's prowess (or lack thereof).
3. In our Organic Growth Multiplier, we also look at the efficiency of generating organic revenue by determining how much is spent by each company to achieve its organic revenue. This gives a truer sense for the efficiency of the company's organic revenue capabilities.

Thanks for the great post on organic growth - a topic not often discussed.

Regards,
Anand Sanwal
brilliont.com
Investile Dysfunction blog
brilliont.com/blogs/id

2008 Aug 12 08:51 AM