AVG: Feb 1st Google Policy Updates Threaten AVG's Growth Engine, Signals Steep Downside

  • AVG Technologies' (NYSE:AVG) Platform business (i.e. the internet search product), including its browser toolbar, has been its most successful program to monetize its user base and has been AVG's primary growth engine, having grown from 8% of sales in 2008 to 45% of sales in 2012. We believe this revenue stream is in jeopardy.
  • Google (GOOG), AVG's primary search partner and currently the source of substantially all of AVG's Platform-derived revenue, is on the verge of announcing an update to its toolbar policy, something that has not been widely followed or discussed by market participants. Furthermore, few, if any, analysts on the street appear to be aware of the upcoming changes; if they are, they have decided not to publish or update their models accordingly. We believe that current consensus revenue and profit projections for AVG are severely inflated.
  • Imminent changes to Google's policies could dramatically lower the rate at which users install the AVG toolbar and consent to its default search option, at least slowing, but more likely severely reversing growth in AVG's Platform business.
  • The market appears to have misunderstood the significance of AVG's recent partnership with Yahoo (YHOO), with the stock rallying close to 50% on the news. We believe this partnership was formed in desperation and anticipation of imminent Google toolbar policy updates. While AVG has added Yahoo as a backup monetization partner, Yahoo's ability to generate revenue for its partners is far below Google's, and if the day comes that it has to flex its reliance on Yahoo search, AVG's revenue will likely contract in a major way.

We believe the equity is highly overvalued at current levels, with an intrinsic value of $8.50-$10/share, 30-40% below current trading levels.

Introduction

In the past decade, Internet search engines became one of the main revenue sources for

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Prescience Investment Group is a research-driven, performance-oriented investment firm. Prescience manages a private investment fund on behalf of its clients and principals with the objective of generating superior absolute investment returns over the full cycle of market and economic conditions. We specialize in extensive, investigative research on difficult-to-analyze or obscure public companies in order to develop unique insights and identify singular investment opportunities. We seek out abnormally large disparities between what businesses are intrinsically worth and what they sell for and invest accordingly, long and short.

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