Google and Apple: A Tale of Momentum

Google (GOOG) and Apple (AAPL) reported in the past week, kicking off another round of quarterly earnings reports for stocks held in Northlake client accounts. GOOG and AAPL compete directly on operating systems (iOS vs. Android) and the desire to control the largest ecosystem of online consumers. Northlake will continue to hold both stocks in client portfolios, although as explained below there is currently a divergence in the near-term outlook for the two stocks.

GOOG’s earnings were slightly below Wall Street expectations for revenue and EPS with the major concern being a slowing in paid click growth to less than 20%. The stock fell about 3% after the report adding to the decline in the shares that was part of the larger correction in the market revolving around fears of slowing global growth, Ebola, collapsing oil prices, and ongoing geopolitical tensions related to ISIS and Russia.

AAPL had an excellent quarter and the stock is trading up about 2% after rising 2% the day of the report. Revenues and EPS came in above expectations driven by better than expected shipments of the new iPhones and continued strength in Mac sales. Guidance for the upcoming quarter was inline with analyst expectations. In Apple’s world that is better than expected guidance given the company’s history of providing a conservative outlook.

Both of these stocks are quite sensitive to the trend in growth. AAPL shares pulled back as earnings growth stalled and even went negative. The share recovery in the stock this year coincides with a return to earnings growth, up about 20% in the last two quarters. The outlook for continued double digit growth is good given the gradual global rollout of the new iPhones and the likelihood that margins benefit form economies of scale as the product transition matures.

GOOG has 20% growth and, in my opinion, reported a quarter that had little impact on the overall bullish thesis. However, GOOG is seeing slowly moderating growth as search battles for ad dollars with Facebook and in app searches on mobile devices. GOOG also continues to invest heavily to sustain its growth but that is serving to depress margins while new businesses develop.

Investors in growth companies like AAPL and GOOG pay for growth and are especially sensitive to momentum in growth in the short-term. For now, that means investors are willing to be optimistic toward AAPL but cautious approaching GOOG. Over the balance of this year, I think that likely means that GOOG shares continue to struggle while AAPL breaks out to new all-time highs.

For the long-term, I see both companies well positioned, with GOOG arguably in a better position given a clearer path to sustained and consistent double digit growth in revenue and earnings.

I see AAPL trading to north of $120 as earnings estimates for 2015 move toward $8.00. A 15X multiple plus a little credit for over $20 in pre-tax cash per share should support another 20% upside in the shares over the next six months.

GOOG now trades at 17X 2015 earnings estimates without given any credit to over $100 in pre-tax cash on its balance sheet. I believe it will take a slight reacceleration in growth for GOOG shares to move significantly higher and the catalyst for that is likely next quarter’s earnings report. If growth expectations firm up, investors will look ahead to 2016 earnings of around $35 and give the P-E multiple a boost, setting up a move to $600-700 over the next 18 months.

GOOG and AAPL are widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts. Steve is sole proprietor of Northlake, a registered investment advisor. Northlake regulatory filings can be found at www.sec.gov. GOOG and AAPL are net long positions in the Entermedia Funds. Entermedia is a long/short equity hedge fund focused on media, communications, leisure, and related technologies. Steve Birenberg is the portfolio manager of Entermedia, has personal monies invested in the funds, and controls Entermedia’s General Partners.

Earnings Updates: Apple, Google, and Qualcomm

This quarter I am trying a different approach that hopefully saves clients time and increases readership of the quarterly earnings updates. I will write short paragraphs on several companies at a time as they report highlighting a few key items in the reports and looking ahead to future potential of each stock.

Earnings season is off to a mixed start for Northlake Capital Management. Google (GOOG) had a good report highlighted by improved revenue growth. The stock responded nicely. Apple’s numbers were pretty much in line with expectations during a transitional quarter ahead of new iPhones and many an iWatch to be introduced this fall. AAPL shares have moved up to a new recovery high, not far below the all-time high in the fall of 2012. Qualcomm (QCOM) spoiled the party as despite an excellent report, the company cuts its 2014 outlook due to conflicts with Chinese manufacturers over payment of license fees. QCOM shares dipped about 7% due to uncertainty about future growth in China.

Here is a bit more detail on each report.

The highlight of Google’s report was a pickup in advertising growth. Investors have feared that GOOG has reached a point where its revenue growth rate would gradually decelerate. This is partially due to the maturity of search and also to more competition for advertiser dollars form Facebook, Twitter, and other internet ad platforms. In the latest quarter, top line growth picked up to over 20%. Maybe more importantly, GOOG broke out data on its Google.com website vs. partners sites (partner sites have Google search embedded). Google.com search growth was above 30%. Finally, there was small improvement in ad pricing, which fell 6% vs. street expectations for a 7% decline. Remember that Google desktop ads are priced higher than mobile ads so as the mix has shifted toward mobile search (smartphones and tablets), pricing has come under pressure. Should pricing pressure alleviate as expected, GOOG will get a nice growth benefit. GOOG shares have lagged the market this year, gaining only 5%. I think a move to $630, or 20 times 2015 estimated earnings of $31.50, is in store now that investors are feeling better about sustained top line growth trends.

Apple reported a dull quarter by its usual standards. Actually, a better way to state it is that investors reacted little to Apple’s results, an unusual occurrence. Earnings came in slightly ahead of expectations with revenues just a bit below the Wall Street consensus. The implication here is that profit margins were better than expected and that was exactly the case. Apple shares have rallied sharply this year after a difficult period as investors anticipate a big upgrade cycle related to the larger iPhone 6 and a significant new product category for the iWatch. I believe the stability in gross margins is equally important as the bear case in Apple has been that its profitability would fall as the smartphone market matured and its premium prices would face pressure. Whether through sustained demand or effective cost management, gross margins have consistently held up better than expected over the past few quarters. Higher margins assumed in the future means more earnings power. It also undercuts the bear case which has helped increase confidence and allowed AAPL’s P-E to expand. I think the iPhone 6 upgrade cycle will surprise to the upside driving 2015 earnings above consensus of $7.00. A slight expansion in the P-E and credit for a bit of the balance sheet cash ($27 per share), should drive the shares to new all-time highs around $120.

Qualcomm’s report was particularly frustrating as the results were quite good with demand for its chips and the associated licensing revenue both coming in stronger than expected. Unfortunately, the company announced that disputes with the Chinese government and certain Chinese licensees would lower earnings power over the next few quarters. It appears that an ongoing investigation into Qualcomm’s “monopoly power” has given Chinese smartphone and tablet manufacturers an excuse to withhold license payments. China is QCOM’s most important growth market so even though the impact to revenue is small (Chinese companies use mostly low end chips), the long-term growth rate impact could be large. This has led to compression in QCOM’s multiple as the stock has fallen about 8%. This is an impossible situation to analyze but QCOM has faced license battles before in Japan, Korea, and with Nokia. In all cases, QCOM came out fine. China could be different and the stock likely is in limbo until the situation is resolved. There remains risk other licensees in emerging markets could follow China’s lead. I think the shares have compensated for the China risk as they now trade at less than 14 times forward earnings estimates. QCOM is buying back a lot of stock has a cash rich balance sheet. Northlake plans to wait out the China issues and looks to a very strong iPhone demand cycle to support QCOM shares while we wait.

GOOG, AAPL, and QCOM are widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts. Steve is sole proprietor of Northlake, a registered investment advisor. Northlake regulatory filings can be found at www.sec.gov. GOOG, AAPL, and QCOM are net long positions in the Entermedia Funds. Entermedia is a long/short equity hedge fund focused on media, communications, leisure, and related technologies. Steve Birenberg is the portfolio manager of Entermedia, has personal monies invested in the funds, and controls Entermedia’s General Partners.

A Bubble in Stock Splits

Several companies held in Northlake client portfolio recently announced stock splits. Discovery Communications (DISCK) and Liberty Media (LMCA) announced stock splits that will become effective over the summer. Apple (AAPL) also announced a split effective in early June. These announcements follow Google issuing new non-voting shares as a 2 for 1 split. As a reminder, what used to trade as GOOG is now GOOGL and new non-voting GOOG shares were distributed to create a 2 for 1 split.

Discovery will complete a straightforward 2 for 1 split by issuing one new DISCK share for each currently outstanding share of DISCK and DISCA. DISCK is non-voting stock, while DISCA has one vote. There are also ten vote per share DISCB shares. Discovery has been a heavy buyer of its own stock, focused on the lower priced DISCK. The buybacks had reduced the liquidity in the DISCK shares which were recently trading at a wider discount to the DISCA shares. The plan announcement worked beautifully as DISCA, and DISCK both rose sharply with DISCK rising several percent more and reducing the discount. The new DISCK shares will be distributed on August 6th.

Liberty Media will distribute two shares of newly created, non-voting Class C shares for each share of LMCA and LMCB on July 10th. This is effectively a 2 for 1 split but instead of giving each shareholder an extra share of what they already own, new non-voting shares will be issued. This is similar to the Google split without the added complication of changing ticker symbols. The concept for both companies is to issue shares that do not dilute the control of current shareholders, in particular, the control of the founders. In the case of LMCA, investors are interpreting the issuance of new LMCC shares as a signal that Liberty may have a large acquisition up its sleeve where they would be willing to issue equity. In turn, that would mean, that management sees the current valuation of LMCA and LMCB as full --- you issue shares instead of paying cash when the shares are richly valued. The combination of issuing non-voting shares and the possible implications are contributing to lagging performance for LMCA so far this year.

AAPL is keeping this pretty straightforward by completing a 7 for 1 split. Yes, 7 for 1 is unusual but like most splits it just additional shares of what you already own and Apple only has one class of stock to begin with. Apple investors will receive 7 shares of AAPL for each current share they hold on June 9th. AAPL is signaling its confidence in the company’s outlook with the split and also bring the shares down to a more normal price (around $90 at today’s near $630).

Splits have no economic impact. You own the same value in the stock as you owned previously. Splits can signal confidence from management. Splits can also be used to accomplish other corporate purposes such as what Google, Liberty Media, and Discovery Communications did as described above.

AAPL, DISCK, GOOG, GOOGL, and LMCA are widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts. Steve is sole proprietor of Northlake, a registered investment advisor. Northlake’s regulatory filings can be found at www.sec.gov. AAPL, GOOG, GOOGL, and LMCA are net long positions in the Entermedia Funds. Steve is portfolio manager and managing partner of Entermedia, long/short equity hedge funds focused on media, entertainment, leisure, communications, and related technologies.

Another Good Quarter Builds Bull Case for Google

Google (GOOG) reported another good quarter. Please note I am defining “good” as satisfactory to investors. GOOG went through a roughly six quarter stretch in 2012 and early 2013 where despite showing sustained 20% plus growth, investors were concerned. These last two quarters have addressed the concerns and GOOG shares have moved up sharply to all-time highs. Northlake’s investment thesis on GOOG is that the shares offered a lot of value given steady 20% growth. The divestiture of Motorola’s handset business, two quarters accelerating growth in paid clicks (searches), and better expense management leave the bullish investment thesis very much intact. I think the shares can trade to at least $1,300 this year based on 20X 2015 earnings estimates plus some benefit for the $150 cash balance. There are very few large cap stocks with substantial revenue bases that can grow 20% a year. GOOG should continue to be rewarded for its unique growth and value profile.

In the latest quarter, GOOG core revenues grew 22% and margins showed stability. Core results exclude Motorola. GOOG appears to be handling the transition the mobile search well, while also getting more than its share of display ads through YouTube. Paid clicks grew 31%. If you believe as I do that mobile ad pricing will eventually improve then paid click growth is the single most important indicator for GOOG’s future financial results. Mobile searches today bring in less revenue and the mix shift toward mobile means GOOG’s realized ad prices are still falling but as long as GOOG remains dominant search market share and mobile growth continues, when mobile pricing improves the company will be able to sustain its growth profile.

The last two quarters seem to be convincing investors that the mobile transition is going to be good for GOOG without a major hiccup as the mix shifts from desktop to mobile. With Motorola no longer a worry, the bull case for sustained double digit growth is even stronger. GOOG represents an excellent core holding for patient investors…and that includes Northlake Capital Management.

GOOG is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts. Steve is sole proprietor of Northlake, a registered investment advisor. Northlake regulatory filings can be found at www.sec.gov. GOOG is a net long position in the Entermedia Funds. Entermedia is a long/short equity hedge fund focused on media, communications, leisure, and related technologies. Steve Birenberg is the portfolio manager of Entermedia, has personal monies invested in the funds, and controls Entermedia’s General Partners.

Google Finally Provides Upside That Triggers Shares

Google (GOOG) finally reported a quarter that surpassed Wall Street estimates and satisfied investors. The stock had worked higher over the last few years despite never quite satisfying Wall Street. A bull market and solid core growth search carried the stock but it lacked the momentum of other high flyers with which it is often compared. Linked In, Netflix, and Facebook all produced stock gains well ahead of GOOG.

I continually stuck with GOOG for Northlake clients because I found the consistent 20% growth in the core online advertising business to be undervalued by investors. The stock was stuck between $850 and $900 from May until this month’s earnings report. Facebook, LinkedIn, Netflix, and Priceline rose between 30% and 100% over the same time frame. Despite what I thought was steady progress for GOOG on the earnings and business development front, it had become clear that the company needed to beat the street to free the stock to realize the potential I thought existed.

Well, that finally happened with the third quarter report. GOOG beat estimates. Most importantly, revenue trends remained at the 20% plus level for the core but margins showed upside to street expectations. If there was one thing that had been troubling GOOG shares, it was steady deterioration in operating margins as the company diversified and transitioned its business model to a mobile world. Upside in the third quarter margins excites investors and is leading to multiple expansion. The shares moved from $890 just prior to the report to the current $1,028 which is right at an all-time high.

Looking ahead, GOOG shares are trading about 20 times Wall Street estimates for 2014, which call for 18% growth. The company has about $43 billion in cash net of debt, representing about $130 in cash per share. I think the company deserves some credit for the cash, so you could argue the 20 P-E overstates the value by 1-2 multiple points.

I think the shares can rise another 20-30% if the GOOG shows that it can more regularly beat earnings estimates. The company is very hard to model and management provides limited guidance and really does not seem to care that much about quarterly results. GOOG truly does seem to be run for the lng-term.

If GOOG hits 2014 estimates for $52 in earnings I think the multiple can expand slightly driving the shares to $1,200 or up another 20%. There are very few megacap stocks grow anywhere near 20%, high single digits is good for most large cap blue chips.

If the company can string together a few better than expected quarters, Wall Street will start looking toward 2014 EPS of $54 or $55 and apply a higher multiple as fears about margins recede. This would put a bull case for the stock closer to $1,400 based on a 24 multiple and credit for the cash.

As long as GOOG sustains core growth near 20% and shows discipline on operating expenses, I think the shares will have enough upside to justify them as a core holding in Northlake client portfolios.

GOOG is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts. Steve is sole proprietor of Northlake, a registered investment advisor. GOOG is a new long position in the Entermedia Funds. Entermedia is a long/short equity hedge fund focused on media, communications, leisure, and related technologies. Steve Birenberg is the portfolio manager of Entermedia, has personal monies invested in the funds, and controls Entermedia’s General Partners.

Google Core Trends Intact Despite Noisy Quarter

Google (GOOG) reported slightly disappointing second quarter earnings. Revenue of $11.1 billion was slightly less than estimates of $11.4 billion. EPS of $9.54 were materially below consensus expectations of $10.81. Given these headline numbers, GOOG shares initially traded down about 5%. However, they were down less than 2% when trading closed the day after the report and have since recovered all the lost ground.

The margin contraction was a little worse than the headlines suggested as GOOG accelerated deprecation that may have cost the company close to 50 cents a share. Other key items below the headlines include still very strong growth in searches (clicks up 23%) and ongoing pressure on search prices as more searches are on lower priced mobile platforms or in emerging markets. There is great hope that pricing improves as GOOG continues to rollout its “enhanced campaigns” that combine a mobile and desktop ad buy. Motorola continues to perform horribly and lose money but a high end phone is due to be introduced in October.

I don’t see anything that changes the core fundamental story at GOOG. Revenues continue to grow about 20% with EPS growing slightly slower as GOOG spends to defend its core search business and expand into new areas. Profit margins are the primary risk for the shares as management is content to focus on absolute profit dollars rather than margins. Given that search is always going to be the company’s highest most profitable business, margins will come down. I believe that this expectation is built into the stock which trades at a reasonable 15 times 2013 earnings adjusting for over $130 in cash on the balance sheet. In a market where most companies are growth-challenged, GOOG seems like a logical place for investors to allocate money. In fact, I think this is largely why the stock bounced back after the disappointing earnings. The reality is that GOOG still offers attractive growth at a reasonable price.

I have long held to a $925 target on GOOG based on 2013 estimates. As we look forward to 2014 and EPS over $50, I think the shares can work to over $1,000. This is not huge upside, just 10-15%. But with the market at all-time highs and most companies struggling to generate even mid-single digit revenue growth, I think GOOG’s relative attractiveness remains high. After the move up from the mid-$600s, GOOG shares are no longer a screaming buy but offer enough upside to warrant maintaining as a core position in Northlake client portfolios.

Google is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts. Steve is sole proprietor of Northlake, a registered investment advisor. Northlake’s regulatory filings can be found at www.sec.gov. Google is a net long positions in the Entermedia Funds. Entermedia is a long/short equity hedge fund focused on media, entertainment, leisure, consumer retail, communications, and related technologies. Steve is portfolio manager of Entermedia, owns a controlling stake in Entermedia’s investment management company, and has personal monies invested in the funds.

Google (GOOG) reported slightly disappointing second quarter earnings. Revenue of $11.1 billion was slightly less than estimates of $11.4 billion. EPS of $9.54 were materially below consensus expectations of $10.81. Given these headline numbers, GOOG shares initially traded down about 5%. However, they were down less than 2% when trading closed the day after the report and have since recovered all the lost ground.

The margin contraction was a little worse than the headlines suggested as GOOG accelerated deprecation that may have cost the company close to 50 cents a share. Other key items below the headlines include still very strong growth in searches (clicks up 23%) and ongoing pressure on search prices as more searches are on lower priced mobile platforms or in emerging markets. There is great hope that pricing improves as GOOG continues to rollout its “enhanced campaigns” that combine a mobile and desktop ad buy. Motorola continues to perform horribly and lose money but a high end phone is due to be introduced in October.

I don’t see anything that changes the core fundamental story at GOOG. Revenues continue to grow about 20% with EPS growing slightly slower as GOOG spends to defend its core search business and expand into new areas. Profit margins are the primary risk for the shares as management is content to focus on absolute profit dollars rather than margins. Given that search is always going to be the company’s highest most profitable business, margins will come down. I believe that this expectation is built into the stock which trades at a reasonable 15 times 2013 earnings adjusting for over $130 in cash on the balance sheet. In a market where most companies are growth-challenged, GOOG seems like a logical place for investors to allocate money. In fact, I think this is largely why the stock bounced back after the disappointing earnings. The reality is that GOOG still offers attractive growth at a reasonable price.

I have long held to a $925 target on GOOG based on 2013 estimates. As we look forward to 2014 and EPS over $50, I think the shares can work to over $1,000. This is not huge upside, just 10-15%. But with the market at all-time highs and most companies struggling to generate even mid-single digit revenue growth, I think GOOG’s relative attractiveness remains high. After the move up from the mid-$600s, GOOG shares are no longer a screaming buy but offer enough upside to warrant maintaining as a core position in Northlake client portfolios.

Google is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts. Steve is sole proprietor of Northlake, a registered investment advisor. Northlake’s regulatory filings can be found at www.sec.gov. Google is a net long positions in the Entermedia Funds. Entermedia is a long/short equity hedge fund focused on media, entertainment, leisure, consumer retail, communications, and related technologies. Steve is portfolio manager of Entermedia, owns a controlling stake in Entermedia’s investment management company, and has personal monies invested in the funds.

Another Solid Quarter From Google Supports Bull Case

Google reported solid first quarter 2013 earnings with most important financial and product metrics tracking very close to expectations. With the stock off 10% from its 2013 and all-time high going into the report, the results were good enough to relieve the pressure. The shares are now up 7% off their April lows but remain about 3% below the all-time high from early March.

I continue to believe that the fourth quarter results, reported in January, marked an important turning point in investor sentiment toward the shares. Investors now see Google as benefiting from the trend toward mobile broadband (smartphones and tablets). In turn, this raises confidence that the company can sustain revenue and EPS growth near 20% a year. With that kind of growth, the shares remain inexpensive. Upside remains over $900 based on a P-E ratio of 15 times 2014 estimated earnings of $54 plus the company’s large cash balance that is contributing virtually no interest income.

Google reported revenue growth of 23% excluding the impact of foreign currency fluctuation. EPS were flat after adjusting for a lower tax rate due to dilution from the Motorola acquisition. Motorola should cease to be a problem later this year as Google finishes restructuring it and losses abate. Paid search growth decelerated slightly but remained at 20%. Cost per click (the price Google receives for a search ad) fell 4%, but the trend remains positive as last quarter was -6% and last year pricing was down double digits. As noted, each of these items was inline with Wall Steer expectations and a continuation of trends evident in the fourth quarter of 2012.

Beyond the risk to search market share and search pricing in a predominately mobile environment, the next big risk to Google is that its profit margins will come under pressure as it invests to secure its long-term growth rate. On this front, the last couple of quarters provide some confidence for bulls. Expenses are rising rapidly as the company builds out infrastructure and pays for traffic to its search engine. However, expense thus far appears manageable. Furthermore, the company is starting to gain respect as an innovator for Google glasses and self-driving cars and Google fiber (cable TV and broadband services). Thus, investors are a little less worried about expense growth on these types of projects.

Looking forward, investors will remain focused on the trade-off between the number of searches and the price received for each search. Trends here seem be stabilizing with search growth still strong, though off its highs, and search pricing down but firming up. Google is implementing new search advertising campaigns that could improve pricing on mobile searches. A positive turn in mobile search pricing over the balance of 2013 is the biggest catalyst for the shares.

Google is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg's personal accounts. Steve is sole proprietor of Northlake, a registered investment advisor. Northlake’s regulatory filings can be found at www.sec.gov. Google is a net long position in the Entermedia Funds. Entermedia is a long/short equity hedge fund focused on media, entertainment, leisure, consumer retail, communications, and related technologies. Steve is portfolio manager of Entermedia, owns a controlling stake in Entermedia’s investment management company, and has personal monies invested in the funds.

Google Concerns Ease

Google (GOOG) has consistently produced 20-25% growth for the last three years but the stock has gone nowhere. Investors have worried that the growth will slow due to competition from social media (Facebook) and the shift from desktop to mobile search. Over the past week, both of these issues have been addresses with a favorable outcome for GOOG investors.

First, Facebook announced its new search product. The product looks interesting and seems like it could be a success for the company but it does not go head-to-head with GOOG in web search. Rather, it provides search just for Facebook's extensive data on its users. Facebook's announcement was still pressuring GOOG shares but I think any material impact on GOOG's growth from Facebook is still many years in the future.

The bigger issue holding back GOOG shares for the past year has been whether the company could manage the shift to mobile computing. The issue is that ads in mobile (smartphones and tablets) are priced much below those on the desktop (PCs and laptops). For example, GOOG has been reporting 25-40% growth in paid clicks (searches for which GOOG is paid) but at an average cost per click (price GOOG receives for the ad) falling 5-20%.

Investors have been concerned that this mix shift would hurt margins as the cost to obtain mobile clicks is higher. In addition, the outsized growth in paid clicks is bound to slow as penetration of mobile devices matures. GOOG's latest earnings report showed progress on the mobile monetization challenge. Paid click growth remained robust at 24%, whiles cost per click fell 4% adjusted for foreign currency. The cost per click decline slowed from an 8% decline last quarter. Wall Street greeted these numbers favorably, pushing the stock up over 6% to anew high for 2013. Heading into the report, GOOG shares were down in 2013 despite the steady market rally.

I think that Wall Street is beginning to accept that GOOG is well-positioned for mobile monetization. The steady growth in paid clicks and stabilizing pricing for the ads sets GOOG up well to sustain 20% earnings growth for the next few years. If investors believe in the growth, the stock trades at a very reasonable valuation, particularly after adjust for about $150 in cash on the balance sheet that is contributing very little to earnings with interest rates near 0% on short-term investments.

GOOG could make around $45 this year and $54 in 2014. Put a 15 multiple on $50 in EPS and you get $750. Add in the cash balance an price target of $900 is quite achievable.

The bottom line is that GOOG had a quarter. Revenue, EPS , and margins met or slightly exceeded expectations. Key drivers of the search business showed that the outlook for the next couple of years is better than the bears having been touting. I think this quarter might be the one that allows GOOG to turn the corner with investors. That will surely be the case if next quarter shows further improvement on the paid click/cost per click front. I suspect it will and GOOG shares will finally live up to their potential.

Google is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg's personal accounts. Steve is sole proprietor of Northlake, a registered investment advisor. Regulatory filings can be found at www.sec.gov. Google is a net long position in the Entermedia Funds. Steve is portfolio manager of Entermedia, owns a controlling stake in the Funds' investment management company, and has personal monies invested in the Funds.

Just When It Looked in the Clear, Google Misses

Google’s results and the negative stock price action are a good chance for me to reflect. In my Entermedia hedge fund, Google is the second largest long position. At Northlake, my long only registered investment advisor, Google is widely owned but a slightly below average position. As a generally long-term investor, my initial thought is today’s results are not a game changer. However, I can’t ignore the short-term either and that could be a little rough.

Standalone Google results were worse than expected. It’s not an excuse but it is worth remembering that Google provides minimal guidance. Let’s look at the estimates and reported figures for this quarter in the core Google (ex-Motorola). Google sites revenue was $7.73 billion vs. a consensus of $8.12, about a 5% miss but up 15% vs. a year ago. Google networks revenue was $3.13 billion vs. an estimate of $3.09 billion, about 1% ahead of expectations and up 21% vs. last year. Sites grew 2% sequentially with network up 5% sequentially. Google indicated that foreign exchange cost the company several hundred million dollars, a figure that is hard to compare to street estimates and hard for the street to calculate. Operating margins at the core were about 36%, approximately 1% less than expected and down 1% from a year ago. Paid clicks (volume of searches) rose 33% against an expectation of 34%. Cost per click (price of an ad) fell 15% against an estimate of down 11.3%. Clearly, there was an overall miss vs. Street expectations. Given that Google does not provide specific guidance, however, the miss seems within the margin of error. And not to be lost is the growth rate of the core business is still almost 20%.

One takeaway is that that Google’s lack of guidance results in more volatility of reported results relative to estimates than for most companies. More quarters than not over the last few years, analysts have been too optimistic. However, that does not mean that Google does not maintain a superior growth and investment profile for the long-term.

As noted, core growth this quarter was just under 20% and showed mid-single digit sequential growth. This is for a company that just reported almost $9 billion in quarterly net revenue, a $36 billion annual run rate. How many really large companies can grow anywhere near this rate? Google’s core search product is also being used more and more -- paid clicks up 33%. Sure, the transition to mobile means the cost per click or price of an ad is falling. Yet, it still nets out to stellar growth.

By any measure, Google appears to be gaining share and maintaining a very strong competitive position. It’s a position that is hard to attack. In mobile, you can argue that Google search is the only player. iOS and Android devices default to Google search. Bing and Yahoo are nowhere to be found in mobile.

Of course, momentum and short-term results matter on Wall Street. This quarter’s negative surprise, even if only modestly negative, is going to break the momentum the shares had finally gathered after a rough few years. Sentiment that had been improving is going to sour.

I suspect I’ll be looking to add to Google over the next days and weeks but it may be at lower prices than $687 (-9%) where it was halted after the earnings were accidentally released early. If the game hasn’t changed, Google can double its earnings in about four years. It seems to me that should lead to a much higher stock price eventually. How many large cap companies do you own or follow with that type of potential and with what appears to a very strong competitive position?

Google is widely held by clients of Northlake Capital Management, LLC, including in Steve’s personal accounts. Steve is sole proprietor of Northlake, a registered investment advisor. Regulatory filings can be found at www.sec.gov.Google and Yahoo are net long positions in the Entermedia Funds. Entermedia is a long/short equity hedge fund focused on media, entertainment, leisure, communications, and related technologies. Steve is co-portfolio manager of Entermedia, owns a stake in Entermedia’s investment management company, and has personal monies invested in the funds.

Earnings from Google, Qualcomm, and EMC Greeted Warmly

The early part of each quarterly earnings season is focused on technology companies as far as Northlake Capital Management’s strategies are concerned. Thus far, we have heard from Google (GOOG), Qualcomm (QCOM), and EMC Corporation (EMC). All three stocks reacted well to their earnings announcement, recovering a significant portion of recent share price declines. Heading into this earnings period, technology stocks sold off sharply on concerns about demand given weaker economic data around the globe. Foreign exchange was also a big worry. Technology companies are global as the language and use of technology crosses borders with ease. Furthermore, mega trends toward mobile broadband, smartphones, and big data are global.

GOOG, QCOM, and EMC each reported results that were very close to expectations. Wall Street was prepared for much worse. Guidance commentary was similar. QCOM guided lower although not as bad as feared. GOOG does not provide guidance but comments on business trends indicate no deceleration beyond the impact of foreign exchange. EMC reaffirmed its guidance, confirming the power of data storage trends. In the short-term, stocks react to news based on expectations. Expectations were low for GOOG, QCOM, and EMC due to macroeconomic fears. As it turned out, good operating execution and powerful long-term business trends allowed each company to beat the lowered expectations. In turn, the stocks rallied sharply. Let’s take a brief, closer look at each company.

The major takeaway from GOOG is that investors are growing more comfortable with the transition to mobile search. The big controversy in 2012 has been the balance between much lower average prices for search advertisements and much higher volume of searches. Both factors are due to the shift toward mobile computing. Additional influences are more searches in lower priced emerging markets, changes to Google’s ad serving technology, and foreign exchange. In the most quarter, the number of paid searches rose by 42%, while the average price per paid search advertisement fell 16%. In prior quarters, this sort of mix was greeted rudely by investors despite the company continuing to produce 20-25% revenue growth. This quarter the street reacted positively to the results. I think GOOG shares reached a positive tipping point with this quarterly report. The stock remains about % lower in 2012 and has plenty of room to make up.

QCOM actually slightly missed earnings and revenue estimates and issued guidance below current street estimates for the September quarter. Normally, this would have punished the stock. However, expectations were for even worse results and guidance. The stock had already fallen from the upper $60s in April, reflecting a summer slowdown in smartphone sales ahead of the iPhone 5 introduction this fall and supply constraints that leave QCOM short of inventory to meet current demand. The quarter proved to be a relief after a string of bad news. All of this is timing related. QCOM remains perfectly positioned to play the mobile broadband trend by providing the key semiconductor technology for smartphones and tablets. Relief and improved sentiment is a welcome change after a few tough months. I do not think the near-term is as bullish for QCOM as GOOG but beyond the next few months the investment thesis remains very good.

EMC preannounced its June quarter earnings and maintained full year guidance. The stock had pulled back from $30 to $23 since April as macroeconomic worries built and many other enterprise-focused technology companies reported shortfalls or cut guidance. I was remained confident in EMC for a couple of reasons. First, the trend toward management of data is as important as the trend toward broadband internet. Cloud computing is raising the demand for hardware and software solutions as requirements for data retrieval and management grow rapidly. This trend supports EMC’s business fundamentals even against the grain of a tough macroeconomic environment. Second, EMC announced upgraded products across most its product line in the spring. This was always part of the business plan but analysts apparently missed the positive impact. When the industry leader offers new products into a market with heavy demand the results can come quickly. This is the case at EMC and the upgrade cycle is protecting the company’s revenues against the deceleration in global economic growth. EMC is a boring stock compared to GOOG and QCOM but the long-term outlook is equally strong as “big data” and cloud computing are powerful and irreversible technology trends.

Disclosure: Google, Qualcomm, and EMC are widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts. Steve is sole proprietor of Northlake, an Illinois-registered investment advisor. Filings can be found at www.sec.gov. Google and Qualcomm are net long positions in the Entermedia Funds. The Entermedia Funds are long/short equity hedge funds focused on media, entertainment, communications, and related technologies. Steve Birenberg is co-portfolio manager of Entermedia, owns a stake in Entermedia’s investment management company, and has personal monies invested in the Funds.

Google Looks Fine but Street Votes No

Despite Google (GOOG) stock getting a drubbing today I am more comfortable with the shares than I was before the earnings report last night. The report was largely in line. Revenues were as expected/ EPS upside was from tax rate and good expense control that juiced margins. I think expenses are a little lumpy at Google so I would not say all is clear on margins but this is still good news. The tax rate also fluctuates so I would not call this a low quality beat either. The volume of searches was much better than expected but the price paid by an advertiser per clicked search fell 12%. This reignited the debate over the health of the underlying business. The shift to mobile computing via smartphones and tablets is driving search volume to mobile where advertising prices are currently lower.

Despite today's stock action, I think the Cost Per Click debate moved in favor of the bulls this quarter. The worry is that mobile clicks will never see rising prices. I think that is the result of weak mobile pricing elsewhere in internet display advertsing. I understand that but I think search has proved different on the desktop and will do the same in mobile. I come at this from a traditional media perspective and I think volume and price will follow eyeballs over time as long as search maintains a high ROI for advertisers (just like national TV does). I think that should be the case for mobile. I get the worry about competition for mobile search from apps and e-commerce sites but I think a similar bullish argument can be made that search is even more valuable in a mobile environment as consumers are even closer to point of purchase than on the desktop.

Bottom line. The quarter is good enough. This too shall pass. Google shares overdue for a catch up move to the market and will reach $750 in 2012.

Disclosure: Google is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg's personal accounts. Steve is sole proprietor of Northlake, an Illinois-registered investment advisor. Filings can be found at www.SEC.gov. Google is a net long position in the Entermedia Funds. Steve is co-portfolio of Entermedia, a long/short equity hedge fund focused on media, entertainment, communications, and related technologies. Steve owns a stake in Entermedia's investment management company and has personal monies invested in the Funds.

Google in the Penalty Box. For Now.

Two minute minor, five minute major, ten minute misconduct, or game misconduct?

I'm thinking ten minute misconduct. The quarter is not nearly as bad as the stock would suggest. Revenues were light but operating income, EBITDA, and free cash flow were in line with expectations. Operating margins, a big issue over the past year, were actually better than expected. Adding back some forex hedging, a Clearwire write-off, and a higher than expected tax rate and EPS would have been in line with expectations.

But apologies don't work here. In line numbers are not good enough for Google (GOOG). A top line miss raises issues as despite the low P-E, GOOG is a growth stock. Growth and revenue misses are not compatible.

Lots of analysts ascribe much of the revenue miss to forex but I don't buy that as these same analysts assumed forex would hurt in their models.

The real issue is Cost Per Click (the price of a search ad) fell 8% in the quarter, more than offsetting much better than expected 34% volume growth of search ads (paid clicks). Paid clicks were expected to rise 24% and cost per click was expected to rise 4%.

The volume surge was led by a shift to mobile and emerging markets and new search algorithms that improved the relevancy of search results. The issue is that these newer searches are priced lower. The question is whether pricing in these areas will eventually rise, and if so, how soon. Furthermore, will volumes maintain their higher trend or will they settle back before pricing improves. In other words, is the core search business mature such that driving growth is possible but only at the cost of lower pricing?

I suspect eventually we will learn that pricing in mobile and emerging markets will improve with volumes continuing to run above current expectations. The world is going mobile. Think smartphones, tablets, and ultrabooks. Advertisers will follow and bid up pricing because that is where the eyeballs are going. However, this thesis is going to take time to prove. At least one quarter, maybe two. And in those same quarters, GOOG will close the Motorola acquisition, which creates another headwind. Thus, this official in putting GOOG in the penalty box with a ten minute misconduct.

But let's not get too negative. GOOG trades at 11 times earnings adjusting for $136 in balance sheet cash. The missed quarter saw 25% revenue growth and greater than 20% operating income growth. Microsoft and IBM are trading sharply higher today on mid to upper single digit revenue growth reported last night. IBM trades at the same multiple as Google. Microsoft trades lower but not hugely so. GOOG offers 20% growth for half the multiple. Sounds cheap to me.

If Google can print a better quarter or two, the shares can regain today's losses and then some. This is what I expect so I am holding Northlake's Google position. If the shares head to the mid $500s, I would add to current positions. Whether it goes there before going higher is a guess.

While we wait, expect intense focus on search trends, particularly search ad pricing. There are lots of datapoints here on a monthly basis. But that is all noise and the big move in the shares is unlikely to come before the next earnings report, 90 days from now.

Disclosure: GOOG is widely held by clients of Northlake Capital Management, including in Steve Birenberg's personal accounts. Steve is sole proprietor of Northlake, an SEC registered investment advisor. GOOG is a net long position in the Entermedia Funds. The Entermedia Funds are long/short equity hedge funds focused on media, communications, and related technologies. Steve is co-portfolio manager of Entermedia, owns a stake in Entermedia's investment management company, has personal monies invested in the Funds.

Google Still Looking Good

Google (GOOG) reported better than expected third quarter earnings of $9.72. Consensus was $8.74. Revenue growth of 33% slightly exceeded consensus estimates. The EPS beat was helped by other income, foreign exchange, and a lower than expected tax rate but this quarter revealed again that GOOG's core organic growth is not slowing down. Given the low P-E of 1 times 2012 earnings excluding over $130 in cash, the growth rate is what matters. This marks the fourth consecutive quarter of accelerating growth for GOOG. The stock is too cheap, even after the big run into earnings and 7% rise after the report. A target over $700 is easily achievable if the economy and market hold together and GOOG tracks to current 2012 estimates.

Also encouraging was stable sequential margins. GOOG is tightening its expense growth and it appears that margins may have bottomed in the second quarter. Margin expansion is the big missing piece for GOOG shares. The company continues to invest heavily in mobile, display, Chrome OS, and the Chrome browser. Management commentary indicates that these investments are paying off on the top line. At the same time, products are being dropped so the focus of the heavy investment is on areas that can make a difference.

Closing of the Motorola Mobility (MMI) will dramatically impact financial results in 2012 due the large revenue it brings. GOOG needs to further improve its financial reporting and transparency so core growth in search, mobile, and display is apparent. GOOG also faces tougher comparisons beginning next quarter which could limit reported growth.

Despite these issues, investors should stay focused on top line growth ex MMI and margins. The last few quarters these issues have been in the right direction. I think it is time to believe that GOOG can sustain 20% growth at stable margins. If so, the shares have a lot of upside. I am a believer.

Disclosure: GOOG is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg's personal accounts. Steve is sole proprietor of Northlake, an SEC registered investment advisor. GOOG is a net long position in the Entermedia Funds, long/short equity hedge funds focused on media, entertainment, communications, and related technologies. Steve is co-portfolio manager of Entermedia, owns a stake in Entermedia's investment management company, and has personal monies invested in the Funds.

Google is a Growth Stock Again

The most important takeaway from Google's (GOOG) second quarter 2011 results is that GOOG is still a growth company. This means that earnings in the future will be higher than Wall Street expects for a longer period of time. In turn, investors will now pay a higher P-E multiple for GOOG. These basic facts explain the immediate 12% positive revaluation of the shares after the company reported.

It may seem odd to many but Wall Street has been very concerned that GOOG is a mature company facing a steadily declining growth rate. Parallels could be drawn to Microsoft or more recently Cisco Systems. The bearish thesis is that desktop search is mature and other revenue streams like mobile search, display, and YouTube were too small and unlikely to ever be profitable enough to reaccelerate overall corporate growth. Much of this concern emanated from competitive inroads made by social media, in particular, Facebook.

Going into the quarter, the street had been lowering estimates and writing cautiously about 2Q search trends as several large search consulting firms indicated the quarter was showing less than expected growth. The stock declined sharply as this exacerbated concerns that growth was slowing and the P-E multiple continued to compress.

The stock did stage a big rebound beginning two weeks ago when the company introduced Google +, its latest entry into social media, to good reviews. The stock gains accelerated as user growth at Google + was much faster than anyone anticipated. This was a hint of what was to come if the earnings changed the story arc from "mature" to "growth." Google + gave people hope again and while it will not have any earnings impact for years, it improved the psychology and the P-E multiple.

The earnings clinched the growth meme by showing that despite very heavy investment in operating expenses, GOOG is still able to grow the bottom line rapidly. Revenues rose over 30% and even with margin pressure from expenses, operating income grew over 20%. Key operating metrics such as number of searches and revenue per search came in at the high end of expectations, reducing fears about GOOG's most important business. Although no specific numbers were provided, the conference call strongly suggested that mobile search, display ads, and YouTube are witnessing accelerating growth. In other words, the investments are paying off.

Finally, the conference call went quite well, especially Larry Page's comments. He was in charge, handled much of the call, and took lots of questions. One analyst said it sounded like he had just graduated from an MBA program. That was meant as a compliment. Page focused on the company's growth initiatives but made clear he understood and the company took seriously the expense management. This was very reassuring as the ease with which GOOG has been criticized over the past several months is directly related to lack of confidence in senior management stemming from the abrupt senior management shakeup.

Street estimates for 2011 and 2012 are now rising. Next year is looking like $45. I think the stock can trade at 15 times that number now that GOOG is back in favor as a large cap growth stock. By the end of 2012, GOOG could have over $150 a share in cash which this simple target calculation ignores, making it conservative.

Heading into the quarter I was nervous being long GOOG for the first time ever. Exiting the quarter, even after the stock popped 12%, I am very comfortable being long and expect the stock to be significantly higher over the next six to twelve months if the market provides just a little bit of help.

Disclosure: Google is a net long position in the Entermedia Funds. Steve Birenberg is co-portfolio manager of Entermedia, owns a stake in the Funds' investment management company, and has personal monies invested in the Funds. Google is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg's personal accounts. Microsoft is held by select clients of Northlake. Cisco Systems is held by select clients of Northlake and in Steve's personal accounts. Steve is sole proprietor of Northlake, an SEC registered investment advisor.

Google lays a sour egg just in time for Easter

Google (GOOG) shares are trading down 8% the day after reporting 2011 First Quarter earnings. EPS of $8.08 fell about a nickel short of the consensus of $8.13. Revenues of $6.54 billion were about $220 million ahead of estimates, growing 28% on an organic basis. Despite a tough comparison, this was the best revenue growth quarter for GOOG since before the economic crisis.

A good friend and former hedge fund manager pointed out that if GOOG split 10:1 then EPS would have been 81 cents, exactly in line with consensus, so we aren’t really looking at an EPS miss here. Rather, investors don’t like the 45% operating expense growth that led EBITDA margins to drop over 500 basis points. The worry is that competitive and regulatory dynamics will inevitably lead to slowing top line growth and require expenses to remain elevated. In turn, the multiple paid for GOOG's earnings has to be lower.

Management commentary on the conference call was quite upbeat. Analyst questioning was quite skeptical. Management firmly believes that it is getting a good return on its investment spending. This pattern of accelerating top line growth with rising expenses has been evident for three quarters now. In the latest quarter, operating expenses spiked upward even more than recent trends, leaving open the question of what happens next. That is not a good question for any stock.

If GOOG is able to sustain or even improve its revenue growth rate while operating expense growth moderates, the stock is extremely cheap at $540, or 15.6 and 13.5 times 2011and 2012 earnings estimates, respectively. The company has over $100 per share in cash on its balance sheet earning virtually nothing so arguably the P-E multiples are 2-3 points lower. This is quite cheap given a top line growth rate in the upper 20% range that has been accelerating.

On the other hand, despite the recent acceleration in revenue growth, GOOG is facing increased competition from social media, is shut out of China, and faces regulatory scrutiny around the globe that could restrict future growth. Search is maturing and while display and video advertising are growing at very high rates, they remain small and less profitable compared to search. If expense growth remains high and revenue growth slows, margins will come under further pressure. This will lead to lower long-term earnings growth and stock valuation.

Complicating the choice between these views is the management transition with an untested Larry Page assuming control of the company. Page's debut on the conference call was limited. The street clearly wanted to hear more from Page, another issue driving today's price decline.

My view is that GOOG remains attractive. Take that for what's it is worth as I've been long GOOG for over a year. In other words, I've been wrong. Nevertheless, I think a case can be made that first quarter results represent the worst of the operating expense comparisons and revenue growth should be maintained or even accelerate slightly over the next few quarters.

Expectations at GOOG, and for Page, are now quite low. The depressed valuation is indicative of low confidence in the stock. I think valuation limits further downside. Upside is substantial if one of the next few quarters shows operating expense growth moderating and revenue growth sustaining. I think it is a good bet that will happen.

Disclosure: Google is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg's personal accounts. Steve is sole proprietor of Northlake Capital Management, an SEC registered investment advisor. Google is a new long position in the Entermedia Funds. Steve is co-portfolio manager of Entermedia, owns a stake in the Funds' investment management company, and has personal monies invested in the Funds.

Google Brings Good Earnings But Uncertainty Prevails. For Now.

Despite another strong earnings report, Wall Street is worried about the implications of Google's management change. Is it a sign that things are not as good as earnings make them appear?

It has been an interesting several trading days in Google (GGOG) shares. After the close on Thursday, January 20th, GOOG reported very good 4Q10 earnings. EPS easily exceeded expectations on much better than expected revenue growth. The top line benefited from rising searches, rising revenue per search, and continued growth in new growth initiatives in display advertising, mobile advertising, and YouTube. While coming in way ahead of street expectations, EPS growth would have been even higher if not for another quarter of heavy investment as GOOG seeks to sustain its lead in search and build display, mobile, and YouTube into material, new growth drivers.

When the results were first reported, GOOG shares soared about 4%. Investors have finally become comfortable rewarding GOOG for top line growth even if it comes with a price of higher operating expenses. The gains did not last long, however, as GOOG simultaneously announced a major shuffle of its top management. Eric Schmidt, long time CEO, was moved out of his operating responsibilities and replaced by Google co-founder, Larry Page. Schmidt, Page, and Sergey Brin, Google's other co-founder, came on the quarterly earnings conference call to reassure investors, but GOOG shares quickly reversed, giving up most of their gains.

Several things seemed to worry the street about the management change. First, Schmidt is well thought of and despite being at Google for 15 years is still viewed as a bit of an outsider, offering mentoring and positive influence to a company still dominated by its founders. Wall Street has liked Schmidt being a check on the founders. Second, Larry Paige, while acknowledged as a visionary, is not thought of us an operating manager. Furthermore, his strengths do not align with a CEO's typical role as the face of the company, particularly to Wall Street investors. Finally, the need to shuffle top management was interpreted as a sign that Google's competitive positioning and growth outlook might not be as strong a recent string of positive earnings reports suggest. Facebook and social media and Google's lack of success in its own social media initiatives are a worry that had been put on the back burner as search growth reaccelerated and new initiatives kicked in. Now Wall Street is asking whether the management change is sign of weakness?

Friday morning saw most Wall Street analysts defend GOOG and reiterate their buys while raising their target prices. This did little good as the shares were being sold and down from prices immediately before the earnings report. The stock really plunged in final half hour of Friday trading when it was announced that Schmidt would be selling 6% of his GOOG shares over the course of 2011. Selling continued into Monday morning with a low of about $600, a full 4% or $25 below the pre-earnings/management change announcements. The stock had sold off about 8% from its high immediately after the earnings were reported. Over the past 24 hours, the stock has begun to find its footing and regained about 3% but it still sits below its pre-earnings level.

I provide this recap mainly to educate Media Talk readers about the crazy ways of Wall Street, particularly in regard to short-term trading. Perception often drives trading and earnings are often discounted ahead of the actual report. In this case, we have a company that based on its most recent quarterly results is stronger than expected but uncertainty has been introduced via the management change.

I continue to have great confidence in Google's earnings and growth outlook and feel the stock offers a lot of bang for the buck. A P-E of 15 adjusted for massive and growing cash balance seems like a good deal for a leading growth stock that has the potential to sustain EPS growth of 15-20% for the foreseeable future. I concur with analyst targets of $700 plus and will continue to hold Google shares in Northlake client accounts, the Entermedia hedge funds, and my personal accounts.

Disclosure: Google is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg's personal accounts. Steve is sole proprietor of Northlake, an SEC registered investment advisor. Google is a net long position in the Entermedia Funds. Steve is co-portfolio manager of Entermedia, owns a stake in Entermedia's investment management company, and has personal monies invested in the Funds.

Google 3Q Earnings Revive Growth Thesis

I was expecting good 3Q10 earnings from Google but I thought it would be built on better cost controls. 2Q10 results that led to a big slide in the shares saw higher investment spending overwhelm a small top line beat. Ahead of the 3Q numbers, I expected another quarter of revenue strength but figured management had gotten the message and would keep a lid on expense growth.

Google did produce a strong quarter and significant positive surprise but it was built mostly on better than expected revenue. Search came in a little higher than expected, providing relief against the onslaught from Bing and competitive worries in mobile and from apps. Display and mobile both exceeded expectations, growing 30% and 60%, respectively. More importantly to investors, management provided specific revenue run rates and optimistic commentary for these emerging businesses. Display and mobile now make up about 15% of Google's revenue and their fast growth should represent more than 25% of future growth. With these businesses now sized and contributing, higher expenses to support their growth are deemed acceptable by Wall Street.

The bottom line is that Google's numbers revived the growth story. In addition, Google reminded investors it can still produce upside surprises. The stock is not expensive for a company still growing more than 20% annually. Earnings in 2011 could approach $35 and 2012 should be over $40. Back out the massive cash reserves on the balance sheet and the stock trades around 15 times forward earnings. This is a reasonable, arguably compelling, valuation for a fast growing leader in one of a few global growth industries, especially with Google shares still down 5% in 2010 after the 9% pop off today.

Disclosure: Google is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg's personal accounts. Steve is sole proprietor of Northlake, an SEC registered, long only investment advisor. Google is a new long position in the Entermedia Funds. Steve Birenberg is co-portfolio manager of the Funds, owns a stake in Entermedia's investment management company, and has personal monies invested in the Funds.

Mixed Quarter from Google Obscures Value and Growth Profile

Google (GOOG) is trading down over 5% in a weak market (S&P down 2.2%) after reporting mixed 2Q10 results. The stock has given up most its gains in the past two weeks since the company received a new license to operate in China.

GOOG reported EPS of $6.45 on revenues of $5.1 billion net of traffic acquisition costs. EPS missed the consensus estimate by 7 cents although revenues were more than $100 million ahead of estimates. Revenues grew 23% and were up 1% from the first quarter. For many companies these results would have been good enough but GOOG is a high expectations stock with recently negative sentiment so a clean beat was necessary to sustain and build on recent gains.

The stock is suffering mostly because operating expenses rose more than expected resulting in a drag on profitability despite better than expected revenue growth. The Street has been concerned for some time that GOOG is facing a tougher competitive environment in which slowing top line growth was going to be met by investment in the business.

Second quarter results again showed heavy investment as GOOG defends its market share in search and invests in display advertising, mobile advertising and search, and YouTube. However, this quarter at least, GOOG's investments seem to paying off as revenue growth beat expectations and accelerated.

The other issue for Wall Street is that while GOOG grew EPS 21% in the second quarter, growth in the second half is expected to moderate into the mid to upper teens. Wall Street hates growth deceleration, especially from a growth company.

Looking ahead to 2011, the big question is whether growth can be sustained closer to 20% or continues to decelerate to 15% as implied by consensus estimates. The stock is undoubtedly good value at less than 15 times 2010 estimates adjusted for the huge cash balance. On 2011 estimates, the multiple is less than 13 times.

I think GOOG's long-term growth will be sustained at least in the teens as search is still growing and new areas are beginning to gain traction. As a result, I think the stock should be owned at current prices. However, the Street is going to need a positive surprise or at least a sign that investment spending is leveling off before the shares respond strongly. Given current valuation and initial signs that growth investments are beginning to pay off, I think it is worth waiting.

Disclosure: GOOG is widely held by clients of Northlake Capital Management, LLC inlcuding in Steve Birenberg's personal accounts. GOOG is a long position in the Entermedia Funds. Steve Birenberg is co-portfolio manager, partial owner the Funds' investment management company, and has perosnal monies invested in the Entermedia Funds.

Google Misses. Sort of.

Even before the Goldman Sachs related market meltdown, Google shares were down 5% following the company's 1Q10 earnings report after the close on Thursday. Most all of the many headline numbers regularly provided by Google met or slightly exceeded expectations. However, the upside was minor and there were a few blemishes. The upside was mainly a return to growth in paid searches. The downside was the price Google earned per search was a bit less than expected. Another blemish was that international growth ex the UK lagged. But since revenues came in slightly better than expected that means the US search business was above expectations.

I think Goldman Sachs' analyst nails it when he notes given a trade-off between more searches or revenue per search, he would take more searches. The implication is that the search business is still quite healthy despite the economy and challenges from mobile computing and the rise of Apps. The analyst also notes to be drawn from this mix is that US search growth accelerated big time. Given a choice between US and international search, he would take US as this market is supposed to be closer to maturity. Thus, a takeaway could be there is more upside abroad ahead than previously thought if the mature market is still growing at this rate.

I buy those arguments, which strongly suggest Google is fine for the intermediate to the long-term. The short-term is trickier as expectations were high and sentiment toward Google is mixed to the challenges on the business and regulatory fronts. Since Northlake's approach is to invest for months and years ahead, I will be holding the shares as I expect the long-term story will re-emerge later this year providing upside to $700. Based on 20 times 2011 estimates earnings plus projected cash on hand (currently over $85 and growing each quarter).

Disclosure: Google is widely held by clients of Northlake Capital Management, LLC including in Steve Birenberg's personal accounts. Google is a long position in the Entermedia Funds. Steve Birenberg co-manages the Funds, owns a portion of the Funds' management company, and has personal monies invested in the funds.

Searching for Profits in Google

Earlier this week, I purchased a position in Google (GOOG) for all Northlake clients who use individual stocks as part of their portfolio strategy. GOOG pulled back from $630 in early January to $545 with the bulk of the drop occuring following the company's 4Q09 earnings report. A general correction in tech stocks and the possible loss of GOOG's growth opportunity in China also contributed. I see the pullback as an excellent buying opportunity. In 2010, upside exists from a cyclical upturn in advertising and the possibility of a return to China. Beyond 2010, I find the shares quite reasonably valued as GOOG continues its global growth in search, begins to gain material upside from its expansion in display advertising, and participates as an industry leader in mobile advertising. I see upside in 2010 consensus EPS estimates of $31. A 20 multiple on $33 in EPS equates to $660 offers 20% upside. Downside in the near-term, independent of a major market correction, should be modest given the stock has already dropped sharply.

Disclosure: GOOG is widely held by clients of Northlake Capital Management, LLC including in Steve Birenberg's personal accounts. GOOG is held in the Entermedia Funds. Steve Birenberg is co-owner and co-manager of the Entermedia Funds and has a personal investment in the Funds.