Google shares reach $400, still a good value?

Today, Google’s shares reached $400. It seems unlikely that any true value investor would consider Google (GOOG) to be a good “value.” Renowned fund manager Bill Miller seem to think it is. His Value Trust fund (a fund that I am considered for my US portfolio) has a good portion (4.3%) of it’s assets invested in Google. Bill Miller “follows a value discipline in selecting securities” according to Value Trust fund’s Investment Strategies statement.

Just for fun, I wanted to see if Google meets any of Graham’s basic criteria for defensive investors (or rather, how badly it fails):

  • Google’s price/book ratio from the most-recent quarter is 12.64. Graham probably wouldn’t touch Google unless it’s P/B Ratio was less than 1.5, meaning Google would have to trade in the $50 range.
  • Google does have a positive book value, which Graham considered a must.
  • Google’s current ratio from the most recent quarter is 15. Graham looked for a current ratio of at least 2.
  • Google’s growth rate has been phenomenal. About 400% from 2003 to 2004, and on pace to grow earnings about 350-400% in 2005. Graham looked for earnings growth of 33% over 10 years. Google hasn’t even been around for 10 years yet and Graham would probably classify it as a “new issue” and would stay clear of it.
  • Google has never paid a dividend. Graham looked for stocks with uninterrupted dividends over 20 years.
  • Google has not made money in each of the last 10 years. Graham liked businesses which had some earnings in each of the past 10 years. Since Google was a start-up not too long ago, there was a time within the last 10 years when it did not make money. Basically Google fails this test because it is just too new.
  • Google’s revenue was $3 billion in 2004, on pace for more than that in 2005. Graham recommends investments with annual revenue of more than $500 million (in today’s dollars).
  • GOOG’s valuation is now $119 billion. This meets Graham’s criteria of being a large-cap stock. Although if Google were valued at its book value of $9 billion it doesn’t look so big.
  • P/E ratio on trailing 12-month earnings is about 89. This is well above Graham’s recommended 15.

Google fails several of these basic criteria by such a huge margin that it makes me feel good about not owning Google, and somewhat worried about buying Bill Miller’s Fund. Apparently, in retrospect, Google’s IPO price of around $100 was a good value, and so was $200 3 months later. And it was still a good value earlier this year when it traded at $300. Google has certainly paid off for Bill Miller who apparently bought it at $85. I’m just not sure if he’s skilled or lucky. Some of his other tech stocks have not fared as well, such as Amazon and eBay, both among his top 10 holdings, and he is at risk of ending his 15 year beat-the-S&P500 streak. Miller’s Value Trust fund has only gained 1.82% this year so far, compared to 3.06% for the S&P 500.

Out of curiosity, I checked ABC Funds American Value Fund, a true value fund (no tech stocks here), and is up 6.34% year-to-date as of October 31, 2005. I am a bit more comfortable with ABC Funds’ true value investing approach, but the minimum required investment is just too high for me right now.

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5 Responses to “Google shares reach $400, still a good value?”


  • At 22 times sales I think it is priced to perfection. But then, I did pass over GOOG when it IPOed :)

  • Really?

    I’m pretty naive in this area… but common sense tells me that sales is irrelevant if the cost of generating those sales or incurred in those sales is too high.

  • Essentially, Graham’s teachings stress the importance of looking at the underlying assets when valuing a business. The only problem is, that some businesses are light on their assets, and some sectors generally enjoy above-standard P/E or P/S since their ROIC and Growth are (from an industry group) above that of others.

    I don’t think a business like Microsoft would ever (unless under extreme conditions) make it onto a Graham screen. Yet, it’s getting to prices that are verging on possible value… as judged by Discounted Cash Flow analysis and Private Owner assessments.

    ===

    My real point, I guess, is that Grahamian analysis is absolutely required (a) to keep a rational point-of-comparison when faced with situations of possible over-exuberance, (b) to try to stick with investments that have limited downside risk. (c) to compare like industries with one another.

    I agree 100% with your conclusion that Google is not cheap, as per the Price / Sales figures, etc. I just think that it should be mentioned that a model like Google would NEVER appear cheap as per price/book, etc.

    Perhaps the best test is to try to get an apples-to-apples assessment. Joel Greenblatt in one of his lectures outlined how he figured that Moody’s Corp was a business that was even better than Coca-Cola, trading below intrinsic value, and a *solid buy at a PE of 20.*

    There are some business that I would love to own at PEs of 20: eBay, for one. And, perhaps, Google, (but only after having 5-10 years of financial history…)

    ===

    I wrote this on the MSN BRK board, and figure it applies here as well:

    Graham-style investing is akin to paying $10 for a company worth $20, but on the way to $15 (i.e. 50 cents for $1, but that dollar is shrinking)

    Buffett-style investing is akin to paying $10 for a company worth $15, but on the way to $20 (i.e. 66 cents for $1, but that dollar is growing)

    Oftentimes, the companies that meet the Graham requirements have negative Return-on-Equity, and very terrible Return on Invested Capial. Some of the “more expensive” Buffett-esque businesses have better margins/returns, etc. but also are more expensive to buy…

    ===

    Finally, in the end, I think my comments on my blog really get right to the point:

    Price is what you pay, Value is what you get.

    ===

    Normally, the “value is what you get” is a function of a something like a Discounted Cash Flow, Private Ownership Value, Sum of Parts, etc.

    With a DCF: Basically… figure out a basic idea of how much free cash the company will make in the future as it grows, and then just discount it to what it would be worth today.

    I guess, one could do a DMS “Discounted Market Share” type of exploration, monitize the market share, and then get an intrinsiv value (a process subject to a lot of error, given all the forward looking estimates… so I just wouldn’t touch this concept in general – would rather stick with numbers that exist vs. making numbers out of thin air… but let’s play along for a moment…)

    So: Basically, figure out how much the market share of the company will be – and the size of the overall pie – as Google grows, and then discount it (i.e. the earnings from these market slice w/ pie size) to what it would be worth today.

    In the end, no matter how you approach the “value is what you get” aspect of it, the first part (”Price is what you pay”) is absolutely an important consideration.

    *** There is no counter argument to this pure truth. ****

    And, the I had the lines that there are great business and great stocks. Some quick case examples I think really get the point across:

    CSCO (and Google, now?) reminds me of a quote by Peter Lynch, along the lines that…

    The worst thing an investor can do is buy a great business but over-pay for the company’s stock. If the business fails to meet expectations then the investor risk a great decline in stock price. But, perhaps even worse, if the business somehow meets the wild expectations (that cause the outrageous stock price), then the investor might, at best, break even, years after the initial investment.

    ===

    In January 2000, Yahoo was a wonderful business (at $200 per share)
    In September 2002, Yahoo was a wonderful stock (at $9 per share).

    In November 2005, Google is a wonderful business (at $390 per share)
    One day, Google too will become a wonderful stock.

    ===

    eBay is another example of the one-time wonderful business, years later, becoming an interesting stock. (In my humble opinion, at least)

    One could argue, that the same shift is starting to develop with Microsoft and Dell? (…be sure to read the linked articles!)

    Perhaps the best example of a deep value Grahamian investment would have been buying the stock of ValueClick during the Internet Crash; plenty of cash per share, traded at discount to net current asset value, etc.

    Similarly, Register.com was a cash-flow positive net-net several times over the past few years. Mohnish Pabrai made a fortune just from this one stock.

    ===

    So, another critical point (that really gets back to the main issue of the original post, and this site in general): There’s certainly plenty of room to discuss Ben Graham and technology stocks (GOOG, CSCO, MSFT, DELL, EBAY, ValueClick, Register.com) in the same vein, but only in the appropriate context/angle.

    I hope this long ramble is coherent… I can try to clarify my point in greater detail should it be a bit hard to follow (I typed this up in a hurry, and realize it may be a bit confusing)

    - ShaiDardashti@gmail.com

  • So, what is the intrinsic value of Google?

  • I don’t know… Shai likes to ramble and regurgitate. Apparently he’s like early 20s and he is setting up an investing company. He wants to be the next Warren Buffett. We’ll see…

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