Google’s ( NASDAQ:GOOG) stock rallied 55% in 2013, primarily due to the bullish investor sentiments for Internet tech stocks and the company’s revenue growth potential. We analyzed Google’s long term outlook in its addressable market and have increased our price estimate to $991 based on the improvement in the company’s search ads revenues. Google launched its enhanced campaigns program in Q3, which is likely to drive revenues across its mobile, PC search and YouTube division. Additionally, we expect the popularity of Google’s YouTube division to boost its display ad revenues in the future. We also anticipate that the EBITDA margins for the company will decline at a slower rate due to the improvement in margins of the under-performing verticals. Despite the recent upgrade, our price estimate is still 10% below the current market price. In this article, we will discuss the factors behind our stock price estimate.
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Ad Revenues Across Search Divisions To Rise
The company launched the new enhance campaigns in 2013, which bundled desktop, tablet and cellphone ads under one umbrella. We expect the increase in ad volume from enhance campaigns, together with increase in Internet search to drive revenue growth across Google’s search ad divisions:
- Google PC Search Ad Division: This division makes up nearly 36% of Google’s value. The primary driver for the division is Google’s share in the growing search engine market. While we expect the search from PCs to grow in the coming years due to growth in global PC penetration, Google’s share in the search engine market will improve due to the superiority of its search algorithm that gives out accurate search results. Currently, we forecast that the company’s market share will rise from 65.7% in 2013 to over 68% in the next five years. However, if Google’s market share were to decline to 60%, there can be about 5% downside to our price estimate.
- Google’s Mobile search Ads Division: With the widespread use of mobile devices, more searches now originate from smartphones and tablets. While Google currently enjoys 89% market share in the mobile search industry, we expect this share to decline to 84% by the end of our forecast period. However, revenues from this division are likely to increase in the coming years due to a rise in mobile web traffic. Gartner has predicted that worldwide mobile ad revenues will exceed $13.5 billion in 2014, and the growth rate for ad revenues will surpass 400% during 2011-2016.  Traditionally, CPC for mobile ads is lower compared to that of a PC. However, as traffic from these devices increase, we expect advertisers to ramp up their ad budgets for mobile devices. This can positively impact Google’s revenue per search (RPS) from mobile as this figure converges with PC RPS. Currently, we project this figure to rise from $6 in 2013 to $8.5 by the end of our forecast period.
YouTube’s Growing Popularity To Boost Revenues
According to comScore, Google is the market leader in the online video content industry with over 163 million unique viewers as of November 2013.  We expect the YouTube division to clock $3.6 billion in net revenues in 2013, and reach around $18.5 billion in the coming five years. According to our estimates, YouTube contributes approximately 10% to Google’s value.
A host of factors such as channelization of YouTube, availability of supporting hardware dongle and new ad format to enhance experience will play a vital role in this division’s revenue growth. These factors will not only drive the unique user count, but also revenue per page view (RPM), as advertisers are willing to pay extra for ads that engage more users. A Turns study estimates that cost per impression (eCPM) for online video is in the $8-$12 range.  As YouTube builds up its content and user base, we forecast RPM to improve to $11 by 2019.
Overall Improvement In Margins
Google’s margins have declined from 69% in 2009 to 59% in 2013, largely due to the acquisition of loss making Motorola. Also, some of the company’s divisions such as YouTube have reported lower margins compared to the other divisions. Buoyed by new product launch and improvement in performance metrics such as RPM and unique visitor count, we expect margins at these divisions to improve going forward. This in turn will benefit the company wide margins for Google. Currently, we forecast YouTube’s EBITDA (earnings before interest tax depreciation and amortization) margins to improve to 28% and Motorola’s margins to 6% by 2019. We expect that this will help Google stem the copious decline in its margins. We forecast that the EBITDA margins for search ads divisions will decline to 52% by the end of our forecast period.Notes: