Google Deserves a Higher Multiple

I have been seeing a lot of chatter on the message boards and opinions in general which believe that Google should be valued in line with average of the S&P 500 which is currently 24. I have heard chatter that Google is overvalued at these price levels and that a lot of people are calling for the stock to retrace down to $390 levels. A lot of chatter about Fibonacci retracements by a lot of traders who harp on the fact that Google is headed lower. Well I beg to differ.

Google appears overvalued in sheer share price terms and psychologically, it probably keeps a lot of would be investors away from the "high" absolute share price of $482.48. Yes in that sense, it is "a lot" of money to buy one share of Google. But when you consider the metrics, you will see that Google, a company consistently producing 45% or better earnings and revenue growth quarter after quarter since its IPO is actually undervalued.

Google carries a ridiculous earnings multiple of 30Xbased on the premise that it will earn $16.00 this year. It already reported 1Q of $3.68 Non-GAAP earnings. It would be safe to extrapolate that it may even earn more next quarter and for the whole year, it can be expected to even surpass the $16.00 mark, as Google has done quarter after quarter. I think Google can do $18.25 this year. But staying conservative, earnings of $16.00 this year, deserves a higher multiple than say Yahoo or BIDU who are not in the same class as this company, yet command a higher multiple. Why? Don't know but it has to begin to gain some street credibility. I believe this is so because the company does not give forward guidance and the multiples are at the lower end. However, this earnings quarter, CEO gave a raving endorsement of Google's future, which is just as good as a forward guidance. In short, Schmidt said, they are kicking ass and they are hitting on all cylinders. They are growing and plan to dominate the internet and media space. If Google gets the same multiple as say Intuitive Surgical or BIDU or even Yahoo, at $16.00 estimated earnings this year, you can extrapolate to $800 (if given ISRG multiple of 50X), $720(BIDU mutliple of 45), or $640 (if given Yahoo multiple of 40). This means that even Anthony Nolo's estimate of $625 this year is too conservative. At the current price of $482.48, it is undervalued by at least 24% on Nolo's estimates, but more realistically, it is undervalued by over 67% given BIDU's valuation.

Mark my words here, BIDU will report a stinker of earnings, their growth is slowing rapidly due to extended CAPEX to venture into Japanese market, which I believe is a mistake. Furthermore, future results will show that China search market is not as robust as they claim to be which is driving their business over seas where there is stiff competition from Google and Yahoo. The predominant search engine of choice in Japn is Yahoo. Please see my prior blog on this matter (you can see my archives). Yet BIDU still trades with high multiple of 45X.

Google's forward PE is 25.27, slightly above mean S&P 500 PE of 24.25. PEG is a very undervalued 1.05. Compare this to Yahoo's PEG of 2.53 and BIDU's 1.11 (this will increase after earnings report).

This quarter's earnings growth of 69% is just eye popping! Yet it can be surmised that Google is confident that it can beat that in the coming quarters! Couple that in with the beginning of the Radio ads initiative beginning in June 2007, you can see that all the acquisitions are done in a methodical and accretive ways even if they are not adding to the bottom line right now.

Forget about all the noise regarding GAAP this and non-GAAP that. It is a matter of time before Google's valuation is in line with other lesser companies. I believe it starts tomorrow.