Google Inc (NASDAQ:GOOG) is dominating the industry in the paid search segment garnering over 95 percent of market share in global spending on paid search, excluding China. Additionally, it also holds the top most position in display-related advertising this year. Analyst Brian Wieser at Pivotal Research Group noted these reasons to be the key drivers for their favorable outlook on Google.
Owing to these drivers, Pivotal has raised the price target for Google from $820 to $870.
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Facebook a threat
Facebook Inc (NASDAQ:FB) is affecting paid search numbers, however, and Pivotal analysts believe that investors might be giving Google Inc (NASDAQ:GOOG) too much credit, due to a decline in spending growth in core small business customers.
Analysts estimate that paid search in the United States has grown by 11 percent in the second quarter of 2013, 13 percent in the first quarter of 2013, 11 percent in the fourth quarter of 2012, 18 percent in the third quarter of 2012, 21 percent in the second quarter of 2012 and 26 percent of the first quarter in 2012.
A decline in the core business is due to market saturation as the majority of small businesses that are already buying paid search are not adding to their individual budgets. Slowdown in the paid search segment may also be due to Facebook launch of promoted posts. In October 2012, Facebook released data showing that 300,000 pages were paying for the service, and 500,000 were estimated to pay by January. Also, small business advertisers have almost doubled from previous levels in July of this year.
Analysts note that on average small businesses presently shell out $1000-$2000 per year with Facebook, presenting a tough challenge for Google Inc (NASDAQ:GOOG).
Google may suffer on margins
Apart from revenues, Google Inc (NASDAQ:GOOG) may also lose on margins due to payments that it makes to Apple Inc. (NASDAQ:AAPL) and to Android partners. As per the Google filing, it amortizes payments over a two year period, implying that fees will surge in the coming quarters due to 57 percent growth in shipments of Android and iOS devices, assuming the market shares of Apple and Android remain the same. Even if there is only a 26 percent surge in shipments, reported fees will grow by 66 percent. Analysts expect a margin erosion of 1 percent on every dollar paid by Google to its partners in 2013 and 2014.
Google’s CFO stated that the company is striving to achieve absolute growth rather than margin expansion. Investors are also expecting this to happen to some extent. Weiser thinks that there will be mixed reactions when results for the quarter are released as the top line growth will be better compared to the bottom line growth.