Google's Guessing Game

EPS estimates range from 98 cents to $1.34, with expectations of a strong but unspectacular quarter.
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Grab your popcorn, pull up a seat and get ready for that quarterly, magical mystery extravaganza that


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earnings report has become.

Google has been a public company for less than a year, but in that short time it's perfected this dastardly entertaining act: You never quite know what it's going to pull out of its earnings hat. Last quarter, it was one of the biggest, fattest rabbits seen on Wall Street in some time -- analysts were calling for a 92-cents-a-share profit. They got $1.29 a share.

Google keeps anything that could be construed as guidance inside its tightly clenched fists, so the market is left at a loss to offer anything better than a wild guess. And yet attempts to second-guess the company's growth have led to some spectacular misfires, such as embarrassing downgrades of its stock before it charges higher.

This quarter, like a hapless volunteer plucked from the audience at the Google Show, many analysts are trying to play it safe. They say they are expecting neither blowout nor blowup -- trying to walk a safe line right down the middle. That approach hasn't worked too well in the past, but what can they do?

So, estimates are all over the scale like a very shallow bell curve. The 28 analysts polled by Thomson First Call are looking for pro forma earnings as low as 98 cents a share and as high as $1.34 a share, putting the mean estimate at $1.21. On a GAAP basis, estimates range from 86 cents a share to $1.27 a share, or a consensus mean of $1.09 a share.

Think about that. Google's profit either rose 69% or it rose 136% from the year-ago quarter, depending on who's asked. That's not exactly a consensus.

Or look at it this way: There are 37 possible EPS figures between that bottom 98-cent number and the top-end $1.34. Coincidentally, there are 37 slots on a roulette wheel. So the odds of an analyst getting Google's profit number right this quarter are not unlike the odds of playing the wheel in Las Vegas. (Only Vegas offers free cocktails.)

If past is prologue, Google will surprise on the upside. Over the past four quarters, it's beaten the Street by 20% to 40%. So if you took a 30%-average surprise, you might be tempted to calculate that Google will beat the $1.21 mean estimate and report a profit of $1.57.

But alas, it's not going to be so easy. There are complicating factors. The second quarter is seasonally slow for search -- a trend verified in



second-quarter earnings Tuesday. But Google's cutting-edge search algorithms have helped it bring in ad dollars faster than rivals, so any decline in the market may be offset somewhat by Google's rising market share.

And predicting the prices advertisers pay for keywords has become a tricky business as spending has spread from a few thousand highly coveted search terms to millions of less common but much cheaper keywords. Still, most analysts are confident that overall demand and spending for search ads remained healthy in the quarter.

"Though paid search pricing may have gotten off to a seasonally slow start early in the quarter, we saw no discernible change in overall marketer demand for sponsored-link advertising from previous quarters," wrote Derek Brown of Pacific Growth Equities in a research note.

"Instead, we believe that marketers continued to shift more budget online, seek out broadened keyword portfolios and manage keyword campaigns more proactively," said Brown. Pacific Growth has no underwriting relationship with Google.

Then there is the foreign-exchange factor. As Google derives more money from fast-growing international markets, it has to worry about a fluctuating dollar. Currency rates have had a mixed effect on Internet companies this quarter, with Yahoo! reporting it took a bite out of its revenue, but


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saying it helped boost its numbers.

Youssef Squali, an analyst at Jeffries & Co., says he'll be watching for operating margins to be flat if not slightly down as research-and-development costs rise as a percent of revenue. "News coming out of the company intraquarter show a high level of activity in this area, including the development of an online payment system, the launch of video search and a video-viewing software, a free 3D mapping and search product and more," Squali says. Jeffries has no underwriting relationship with Google.

All in all, analysts are saying it adds up to a strong but not spectacular quarter for Google, much as it was for Yahoo!. "This could be Google's first public quarter to meet, rather than exceed published forecasts," says Marianne Wolk of Susquehanna Financial, which has no underwriting relationship with Google.

But options activity indicates that investors are bracing for volatility in the stock after earnings. Good numbers could add fuel to the speculative trading that has been driving Google higher; conversely, a disappointment would take a lot of air out of the stock.

After hours on Wednesday, shares of Google traded up $4.17 to an all-time high of $316.17.

But how will it all come out? Only Google knows, but it isn't saying until Thursday afternoon. After all, good magicians never reveal the secrets to their tricks.