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June 27, 2005

Why Oh Why Can't We Have a Better Press Corps? (Google at $300 a Share Edition)

In order for anybody to believe that it is worth paying $300 a share for Google, they must believe that:

Google's profits will quadruple from current levels in the next several years, and thereafter it will continue to grow at a very healthy pace--a healthy enough pace to earn a rate of return of 5% per year or more on reinvested profits.

Or:

Google stock can be sold in a couple of months to a greater fool who will pay more than $300 a share.

If you were a newspaper reporter writing a story intended to inform those concerned about making profitable investments, your story would lay out the current high price-earnings ratio of Google--70--and sketch out the likelihood of various scenarios for Google's future sales and earnings growth. It would talk about the likelihood of Google's erecting powerful enough barriers to entry to preserve its current high margins--35% of revenues. It would talk about the plans of potential competitors to grab some of this high-margin search gravy train, and whether Google's margins might be forced down as a result.

Gary Rivlin of the New York Times tells us absolutely nothing about this. He doesn't care enough about informing his readers to even get the most important and interesting measure of Google's current valuation--its price-earnings ratio--into his article. It wouldn't be hard. All he'd have to do is to say that Google is valued at as much as Time-Warner although Google has less than one-third the profits, less than one-eighth the sales, and something over three times the profit margins, and ask his interviewees to assess the likelihood of scenarios in which Google's profits are as big as Time-Warner's.

But that's not even a minimal priority for Mr. Rivlin and his editors:

At $300 a Share, Google Looks Pricey and Still Irresistible - New York Times: By GARY RIVLIN: [H]ow do you embrace a stock that has more than tripled in 10 months and cracked the $300-a-share barrier so quickly since going public that much of its growth potential seems already built into the price? In early May, when Google was trading for $236, Mr. Edwards sent a note to clients of his firm, a group that includes wealthy individuals and money managers, recommending that they buy Google stock. But Mr. Edwards, who has been analyzing publicly traded stocks for two decades, acknowledges that Google has him flummoxed now.... [M]any of his counterparts, including those working for more prominent investment banks, continue to recommend the stock.

Heath P. Terry... Credit Suisse First Boston... raised his target price to $350.... Mr. Edwards... describes himself as stumped.... He does not have the conviction to advise clients to buy the stock, nor is he pessimistic enough to advise them to sell. "Let's just say if I was owning Google stock right now, I'd be selling some," he said....

[E]venome of those who were bullish on Google when it went public in August, at $85 a share, wonder if investors have forgotten some of the lessons of the 1990's.... John Tinker... ThinkEquity... uses the "B" word - bubble - when describing the market's giddy embrace of Google, even as he has a price target of $330 on Google....

Comparisons are also being made between Google and Time Warner, another company deriving the bulk of its revenue from advertising. Time Warner had a market capitalization of $79.19 billion at the close of the market on Monday, below Google's though it posted first-quarter revenue eight times that of Google, and profits about three times as large....

Any number of theories might explain the most recent run-up in Google's stock, which has risen 67 percent since April 1. Those range from data suggesting that Internet advertising revenue is rising by as much as 40 percent a year - a trend sure to benefit Google - to a herd mentality among mutual fund managers ready to declare that resistance is futile: to post the kind of returns that would put them in the upper echelons of performance tables, they need to own shares in Google....

Mr. Terry of Credit Suisse thinks that even at its current price, Google is still worth buying, noting the company's aggressive moves to extend its core search business. On Monday, for example, it announced a new bit of software called the Google Video Viewer, complementing its effort to encourage users to submit their own video to its database and adding a "search within the video" feature.

John Battelle, the author of a book on Google called "The Search," to be published in September by Portfolio Hardcover, says it is only natural that people want to believe in Google.... "If you really believe in something, you're looking for a place where you can prove you were right the first time," he said. "And Google is such a place."

Posted by DeLong at June 27, 2005 10:18 PM