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850,000 Android devices are activated every day, Google's search business continues to rise in profits

Google Inc. (GOOG) isn't number one in the tech industry in profit (that would be Apple, Inc. (AAPL) -- $13.06B USD in Q1 2012) or in market cap (again, Apple -- $578B USD).  But Google is still a giant in its own right, ruler of all things search, and owner of the most used smartphone operating system in the world, Android.

I. Core Earnings

Google just reported its fiscal Q1 results and everything is looking fine and dandy.

Profit rose to $2.89B USD (non-GAAP; GAAP: $2.65B USD) vs. $1.80B USD (non-GAAP) a year ago.  The earnings were more than 4 percent better than the analyst consensus.  Net revenue rose to $10.65B USD, up from $8.58B USD in Q1 2011.  That's a rise of 24 percent.

Search on Google
Search continues to drive Google's profits. [Image Source: Google Images/Unknown]

A major portion of Google's revenue goes to so-called "traffic acquisition costs", which include deals with top browser makers, etc., which funnel search traffic to Google's homepage, but also cost it money.  These costs rose from $2.04B USD to $2.51B USD on a year-to-year basis (up 26 percent).  However, paid clicks rose 39 percent, indicating Google is getting more bang for its buck and not simply buying more hits.

The company declined to break down revenue by a per-product basis, other than for YouTube and Search.

II. Vital Signs

Quick vital signs on core Google offerings:
  • Chrome: 200 million users (a figure that appears not to include Android Chrome)
  • YouTube: $5B per year USD in display ad revenue.
  • Android: 850,000 activations a day (310m devices a year); Google Play (revised app/video rental store) launched; new Chrome browser launched
  • Google+: 170 million users (active?) (point of reference Facebook: 845m active users)
Google earnings
[Image Source: Jason Mick/DailyTech]

The software firm ended the quarter with just over 33,000 employees worldwide.  The company has $49.3B USD of cash on hand (about half of Apple's war-chest).

Google stock, currently hovering around $625 USD, will be offered a split of 2-to-1.  However, the new shares will be non-voting shares, something that may turn off large investors.  Thus liquidity is improved, but control is reduced -- which may give institutional investors mixed reactions.  Indeed, Google's stock was down 3.75 percent today, despite the strong performance.

III. Dodging Those Pesky Taxes

The company also announced that for the first quarter of 2012, it is now paying an effective tax rate of 18 percent [source], above the average (~12 percent) for Fortune500 companies, but about half the supposed tax rate set forth by basic corporate tax law (35 percent of earnings), the rate small-to-midsize business are typically forced to pay. 

Google in recent public comments, defended sourcing its regional head-quarters in low-tax regions like Ireland, Luxembourg, and the Caribbean as a way of masking its corporate earnings.

The company esentially said that it had to dodge taxes as a responsibility to shareholders, commenting:

We have an obligation to our shareholders to set up a tax-efficient structure, and our present structure is compliant with the tax rules in all the countries where we operate.

To its credit, Google was one of the only companies to effective own up to this practice in a public comment.

Google paid an incredible effective tax rate of 2.4 percent in 2010 [source].  

The U.S. has a complex tax code, where top corporations and wealthy individuals typically pay a lower effective income tax than small-to-midsize businesses or the middle-class.  This system is made confusing by the fact that the wealthy interests appear to be taxed more on paper -- among the highest taxes in the world in fact.  The "discounts" are only added at tax time.

Google spent $9M USD in lobbying in 2011 [source].  And its political action committee (PAC) chipped in another $1M USD, largely party-agnostic [source].  Google gave $814,000 USD to U.S. President Barack Obama in his last campaign [source] and $165,000 so far this campaign [source].  Obama was the first presidential candidate since records became available to be heavily funded by Google.

Today U.S. politicians are much like NASCAR drivers in that they spend much time thanking their sponsors.  Those thanks come in the way of tax loopholes, tax holidays, judicial favoritism, and other perks.  A recent University of Kansas School of Business study [PDF] found that $1 given to a federal politician was worth $243 USD of tax breaks, if you contributed over $1M USD.

The cost of these bipartisan concessions come in the form of America's $15T USD national debt and tax barriers that discourage smaller individuals and competitors from rising in affluence, thanks to higher taxation.

IV. The Unknowns

What was not discussed during the earnings call?  Notably, app statistics or Android revenue/profit.  Speculation is high about exactly how profitable or non-profitable Android is.  For now all Google would say was to call the platform a "gamble" and suggest that it is thus far paying off in activations (market share).

Also not discussed was the pending acquisition of top-three Android phonemaker Motorola Mobility.  Approved in the U.S. [press release] and European Union [press release], and approved by voting shareholders, the acquisition is almost ready for primetime.  However, its completion has been stalled by China.  China (also not mentioned in the earnings call) has come to an "understanding" with Google regarding mandatory censorship in its services, however, the world's most populous nation is still at odds with Google for complaining about being hacked.

Google on Motorola
Google's acquisition of Motorola is stalled pending Chinese approval.
[Image Source: TechnoBuffalo]

Many in the government of China have advocated a model in which foreign businesses must increasingly surrender their intellectual property in order to sell to Chinese users (note that  manufacturers not selling to the Chinese market would be exempt -- for now).  While legislation to that end stalled on the grounds of outrage from the U.S., China appears to be still encouraging a black market of IP theft of American firms.

Google, a prominent victim of such attacks and code theft, has spoken out against the company's apparent promotion of the practice.  China's top state-run newspaper responded with a threatening commentary in a top interview, suggesting that Google should either put up with the abuse or get out.

China may be using the Motorola deal as a bargaining chip to try to convince Google that the correct answer is "put up with the abuse".

Source: YouTube

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RE: So Tony
By Tony Swash on 4/14/2012 12:04:22 PM , Rating: -1
A few observations.

Google's stock declined after these figures were released.

Still no data on Android costs and revenues. Why? Usually when data is obviously withheld it is because it is not good. As usual the best and most rigorous analysis comes from Horace Dediu at Asymco, his article on Android economics is worth a read

Here is his final paragraph:

So in terms of returns, Android is sustainable. However, in relative terms the value created leaves much to be desired. Whereas Android generates $1.70/device/year and thus an Android device with a two year life generates about $3.5 to Google over its life, Apple obtained $576.3 for each iOS device it sold in 2011[4]. The economics of Android are nothing like the economics of iOS.

The stock split could be construed as being ethically dubious and may attract regulatory attention, but Google may get away with it. Here is some back ground on this issue from Bloomberg and Reuters (both well known Apple shills of course).

In the Bloomberg article Brian Womack points out that Google gets most of its revenue from Internet-search ads -- the text links that appear in query results. The average cost per click, a measure of what Google can charge advertisers, declined 12 percent in the first quarter, an acceleration from 8 percent in the fourth quarter.

Colin Gillis, an analyst at BGC Partners LP in New York called the decline “startling” and wrote that it suggests “incremental search volume that is being created is lower priced inventory.

Brain Hall is also worth a look, an analysis who has been talking about 'peak Google' for a while and the challenges that the shift to a non browser based mobile web means and the risks it poses for Google.

Here is a lengthy but interesting excerpt from Brian's piece:

Where I think we are seeing weaknesses, however, of the kind directly related to the smartphone wars, are in the following areas:

• 46% of their revenues are from the US. 

• Average cost per click declined a significant 12% over Q1 2011 (a 6% decrease from the previous quarter, Q4 2011).
• Traffic acquisition costs, in large part what Google pays others to make Google search prominent on their sites/platforms, were up slightly.

Smartphoens are altering how we search. It's typically easier to activate a highly specific app on a smartphone rather than go to a mobile web browser and search on Google. 

This has created legitimate opportunities for more and more applications to cut into more and more types of search. Despite Google search and Google maps, for example, the smartphone makes it far easier and better to search for a restaurant using Yelp, say, than using Google. 
Smartphones are linked with platforms. The web is no longer the web. To "google" is no longer as simple as typing in a phrase in the open web browser. Carriers and device makers have more power than before over how accessible a search engine is both in the device and on its browser.
For example, Google has to pay Apple to make Google search the default on iPhones and iPads. This will not change. However, as I've said many times, when you look at the numbers you realize there is no iPhone vs Android war -- it's Apple iPhone vs Samsung Android.
This gives both companies leverage over Google. 

I would not be surprised if Samsung increases its demands on Google. Such as, to start, increasingly large direct payments to incorporate Google search and all the other 'sanctioned' Google applications on its devices.

There's also that massive US number. Almost half of all Google's revenues come from the United States. iPhone is strongest in the United States. It's share of the US smartphone market stands at about 30%. It is the most popular device across the three largest carriers in the nation. 
As iPhone grows in function, expect it to also demand higher payments from Google. We should also expect the iPhone platform to offer more/superior alternatives to Google. 

Lastly, there's the issue of the cost per click, which fell for the second quarter in a row. Cost-per-click (CPC) is the amount Google charges advertisers when a user clicks on an ad. 

Though Google refuses, still, to break out numbers, it's widely accepted that cost-per-click is down because of the shift from PC search to mobile search.

Isn't this backwards? That is, shouldn't the cost per click for mobile search be higher than PC search?
In theory, yes. Smartphones are always on, highly social, location aware. The results they return should therefore be much more specific -- more "relevant" as Google states.

A more relevant result ought to result in higher margin clicks. Only, they do not. In fact, I don't believe they ever will. 
The cost-per-click business model is a relic of the PC age. While Google's Page is correct in stating that Android is growing, and we all know that smartphone device growth will far surpass PCs, the business model that has allowed Google to earn around $40 billion a year in revenues and over $10 billion a year in profit, is dying.

Cost per click on a smartphone screen is, frankly, silly. The smartphone allows for extremely specific results and that is what the smartphone user demands. Smartphones are simply better at search than PCs. They present information based on the exact time, the exact location and the exact need. But the Google model, built for PCs, is likely not the model that will win out. 

By owning the Android platform and by having the leading smartphone mapping service, Google is well positioned to offer superior search services. It's just that their primary method, the one they've used to become a global web giant, is increasingly irrelevant. In addition, another core strength, the ease of use of their service, where an always-open (PC) browser allowed for rapid search -- on Google -- is no longer the preferred (or even sensible) method of searching.

Fact is, only a couple years ago, Google owned search. Now, because of the smartphone wars, new forms of search are exploding across devices and platforms. Certainly, Google is well positioned for this. But they are not the only legitimate solution nor do they control the superior business model for this ew era of search.
It's a whole new world. 

Over the past decade, Google went from a noun to a verb. This is now reversing itself. 

It still seems to me that is undenaibly true that the only people making any money out of the rise of the mobile device is Apple and Samsung.

"Well, there may be a reason why they call them 'Mac' trucks! Windows machines will not be trucks." -- Microsoft CEO Steve Ballmer

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