A surprise jump in hiring and operating expenses shook investor confidence in Google
Once again, analysts say, the culprit was Google's stance of keeping Wall Street in the dark over its outlook -- resisting short-term profit pressures, but creating unnecessary volatility for investors, analysts complained.
On Thursday, Google reported a 58 percent jump in second-quarter revenue, matching the average analyst forecast. But profit fell short of expectations after a 13 percent spike in new hires over the last three months drove up payroll and operating expenses and ate into Google's margins.
Bernstein analyst Jeffrey Lindsay used a soccer metaphor to describe how Google had scored an "own goal" against itself.
"It is not that the match is lost or the game is over. It's just a setback for Google," he said.
"However sloppy, Q2 was NOT a thesis changer," Citigroup analyst Mark Mahaney agreed in a note to investors on Friday.
Since Google went public in August 2004, the company has refused to provide financial guidance that Wall Street analysts use to model future results. Periodic adjustments to accounting can create sudden swings in results.
On Thursday, Google surprised analysts by taking a sudden $60 million accrual adjustment to spread employee bonus payments equally over four quarters rather than weighting them toward the final quarter of the year. No analyst had expected the accounting move that caused the shortfall in profits.
UBS analyst Ben Schachter said in a note to clients he expected Google to moderate hiring for the rest of 2007, but that "the damage has been done to sentiment and expectations and the stock could be range-bound for some time."
Since going public, Google has missed Wall Street forecasts one other time, also due to an accounting surprise related to a one-time tax adjustment. The year-end 2005 results led to a 15 percent tumble in the shares in January 2006, followed by a recovery later last year.
Still, 17 Wall Street analysts -- a majority of those who rate Google -- maintain target prices on the stock above $600. Twelve are below $600, according to Reuters Estimates data.
Only Bear Stearns cut its target to under $600 in response to the disappointing results, while two analysts actually set targets above $600 on Friday.
Shares of Google tumbled more than 5 percent Friday, but trading on Nasdaq was light at under 10 million shares. Other major Internet companies all traded more actively after a week of mixed quarterly results from Yahoo
"The stock is not likely to recover anytime soon, as 'fast money' will leave the story, at least through the end of the summer," Schachter predicted. The UBS analyst has a buy rating and a $655 12-month price target.
On a quarterly investor conference call following Google's report, analyst after analyst grilled executives on what they were doing to rein in operating expenses. "We will watch it. We will adjust. We will be opportunistic. But we are going to be careful about that," Chief Executive Eric Schmidt said.
Goldman Sachs analyst Anthony Noto was among analysts who took confidence from Google's revenue growth and lower taxes, and looked past its falling profit margins. He boosted his earnings estimates by 5 to 6 percent for 2007 and 2008.
Bernstein's Lindsay says Google's principled stance of "no guidance to Wall Street" creates "unnecessary and unpleasant" volatility" over operating and accounting issues the company controls and could deflect.
"Some warning would be appreciated," Lindsay said. "This volatility is very disturbing to fund managers."
But the hiring spree is understandable in a sense, Lindsay said. "This is the term when all the computer scientists and engineers are disgorged from universities. The intake is at its highest. Google is staffing ahead of anticipated growth."