Google Value Questions Burn Bright

As expected, Google isn't coming cheap.

But, as the search engine giant's initial public offering fast approaches, it's still up for debate as to whether its stock will be moderately expensive or wildly so.

Sure, the company's stock is looking pricey, even compared with some richly valued peers. On the other hand, investors are known to pay up for the privilege of owning part of a valuable brand -- no matter how hard it may be to put a price on a brand that's become nearly synonymous with searching on the Internet.

"It's like trying to put a value on Coke," says Jefferies analyst Youssef Squali.

As difficult as the brand challenge may be, Monday's release of new information at least offers some figures for investors to mull over. The company shared broad guidelines about the size and the pricing of its IPO, along with second-quarter financial information. In doing so, Google has offered potential investors more data on which they can base estimates of the company's earnings and valuation.

But those numbers were only part of the news Monday for Google, which suffered intermittent outages on its flagship site Monday, and which readied a "road show" of pre-IPO presentations to institutional investors.

By setting a range of $108 to $135 per share in its offering document for the 24.6 million shares that the company and insiders will be selling, Google has given investors and analysts a starting point for judging the company's offering price -- a price that will ultimately be set by an auction process.

That starting point, however, gives rise to other questions, such as to which company or companies Google should be compared, to what degree comparisons fail, and on what financial measure any assessment should be made.

Internet media bellwether Yahoo! ( YHOO) is the most obvious point of reference for Google, especially since Yahoo! participates in Google's key business of pay-per-click advertising. Yet for several reasons -- for instance, the lesser role that search engine advertising plays in Yahoo!'s business -- Google bidders have no easy task ahead of them.

One attempt at the valuation issue comes from Squali, who says that the $121.50 midpoint of Monday's per-share price range is 33 times his estimate of Google's 2004 per-share earnings before interest, taxes, depreciation and amortization.

Yahoo!, for purposes of comparison, trades at 24 times such an EBITDA multiple, after one subtracts out the value of Yahoo!'s stake in Yahoo! Japan.

Ask Jeeves ( ASKJ), a smaller paid search company, trades at around 21 times 2004 EBITDA, says Squali.

Squali says the apparent premium of Google to other Internet marketing companies could serve as a catalyst that would fuel the recovery in that group.

On the other hand, others might look at the pricing as a sign that Google is appreciably more expensive than a group of stocks that are not usually classified as value stocks.

Looking out to 2005, however, analyst Marianne Wolk of Susquehanna Financial Group sees the $121.50 midpoint price implying a discount to Yahoo! and fellow Internet giant eBay ( EBAY).

Based on her estimates for 2005 earnings -- ignoring noncash charges, assuming full taxation and, like Squali, accounting for Yahoo!'s Yahoo! Japan stake -- Wolk says the Google midpoint amounts to nearly 40 times 2005 earnings, compared to Yahoo!'s 42 times multiple and eBay's 46 times multiple.

Comparing net revenue growth, Google is growing at an average 70% per year from 2003 to 2005, says Wolk, while Yahoo! and eBay are in the 40% to 50% range. And Google's EBITDA margin -- 63% in the latest quarter, falling to an estimated 56% in 2005 -- is well above those of Yahoo! and eBay, she says.

Post-IPO, says Wolk, she can imagine Google trading at a slight discount to Yahoo!, given concerns such as Google's nondiversified business, compared to Yahoo!, and the threats of insider selling.

Wolk has a "net positive" rating on Yahoo!.

Looking at the second-quarter numbers, Squali took note of Google's disclosure that advertising on Google-owned Web sites grew 13.2% sequentially in the second quarter, while revenue from advertising on other companies' sites grew only 3.7% over first-quarter figures.

Because Yahoo! -- which confessed to a slowdown in its own paid search business in the second quarter -- doesn't break out specific numbers for that business, Squali says it's unclear whether Google or Yahoo! gained share in the second quarter.

But, given the disparity between the performance of Google-owned sites and the sites in the company's network, Squali says it's easy to see that traffic grew faster than that on the network. "I think it's a sign that when things get tough, the brand always wins," says Squali. (The analyst has a buy rating on Yahoo!; his firm represented a company that Yahoo! recently purchased.)

In other IPO-related news, Google -- which has rebelled against Wall Street tradition by, among other moves, opting for the nontraditional auction process to set its offering price -- appears to be taking the traditional route in one respect: conducting a pre-IPO road show of presentations to institutional investors.

The road show, according to one source, begins with a New York City cocktail party Monday night. It continues, say others, with a large luncheon in New York Tuesday. Google didn't respond to a request for other information about the road show.

In its Monday filing, Google disclosed that the staff of the Securities and Exchange Commission had recommended the SEC bring a civil injunction action against Google general counsel David Drummond, alleging violation of federal securities laws, including the antifraud provisions. The recommendation, says Google, arose out of Drummond's prior employment as CFO of SmartForce -- a corporate training firm that's now part of SkilSoft ( SKIL) -- and involves "certain disclosure and accounting issues relating to SmartForce's financial statements." Google says that none of the allegations involve Google.

Reuters, which reported the Drummond story, quotes Google as saying Monday, "We have the utmost confidence in David's integrity, as well as his abilities as a Google executive. We do not expect that this matter will have any bearing on Google, Google's IPO or David Drummond's performance as Vice President, Corporate Development and General Counsel."

Meanwhile, Google's search engine was intermittently unavailable Monday as a result of a virus attack.

"The Google search engine experienced slowness for a short period of time early today because of the MyDoom virus, which flooded major search engines with automated searches," the company said in a statement. "At nopoint was the Google website significantly impaired, and service for allusers and networks is expected to be restored shortly."

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