$GOOGL Q4 Earnings Preview

by Dan February 1, 2016 11:35 am • Commentary• Trade Ideas

Event: Google (GOOGL) reports Q4 results tonight after the close. The options market is implying about 6.5% one day move vs the 4 qtr average one day move of 7.4% and the 10 year average move of about 6%.  The weekly implied move is about 7%, as the Feb 5th 765 straddle with the stock $765 is offered at $53, if you bought that, and thus the implied move you would need the stock below $712, or above $818 on Friday’s close to just break-even, or about 7% in either direction.

Price Action / Technicals: GOOGL has shown very impressive relative strength year to date, especially after the stock’s 11% rally from its 2016 low on Jan 20th, placing the stock down 1.5% ytd vs the Nasdaq Composite’s 8.5% decline.

The 6 month chart below shows the obvious technical resistance at the prior all time high at $800, and $700 which was a prior breakout to new all time highs back in late October following their Q3 results:

[caption id="attachment_60856" align="aligncenter" width="600"]GOOGL 6 month chart from Bloomberg GOOGL 6 month chart from Bloomberg[/caption]

Taking a gander at the 10 year chart, it’s apparent that the stock has diverged massively from its long term uptrend, and after a period consolidation in 2014/15, the stock has since gone up nearly 30% in a straight line, with obvious support at $700, $600 and $500:

[caption id="attachment_60857" align="aligncenter" width="600"]GOOGL 10 year chart from Bloomberg GOOGL 10 year chart from Bloomberg[/caption]

Sentiment: Wall Street analysts are IN LOVE with GOOGL, with 45 Buy ratings, 4 holds and no Sells, with an average 12 month price target of $874.50, or about 14% higher than current levels.

Valuation:  The stock trades at 22.5x expected 2016 eps of $34.20, growing 18% year over year, up from 13% in 2015.  Sales are expected to grow 17% in 2016 to $70 billion, up from 2015’s expected $60 billion, up 15%.  I would add that GOOGL’s expected GAAP eps share is $27.57, some 20% lower than their adjusted estimate, assigning a 28 P/E.

I bring up the differential between adjusted and GAAP earnings because GOOGL is now one of the largest companies in the world by market cap at $522 billion, $11 billion below Apple (AAPL), and $90 billion above Microsoft (MSFT) two companies that report their earnings in line with GAAP. I suspect this is coming to a theater near you with GOOGL, which could affect how investors view GOOGL’s valuation relative to their growth and their high levels of employee compensation.

Expectations:  Mark Mahaney, internet analyst at RBC Capital Markets, highlighted the following key issues to watch in tonight’s report:

1) Paid Clicks, CPCs, and TAC – In Q4, we estimate GOOGL can do 23% Y/Y Paid Click growth, which is the same level as in Q3 but on a 3-point easier comp. We are modeling CPC declines of (7%) Y/Y in Q4, or a 2-pt sequential improvement on a 1-pt easier comp. In terms of TAC, we est it will rise 10bps for Network Sites to 68.2%, but remain sequentially flat for Google Sites in Q4 at 8.0%.

2) Google Op Margins – We are modeling Q4 Non-GAAP Op Margins to be up 100bps Y/ Y to 39.7%, though flattish Y/Y results would not be surprising.

3) Google Organic Ad Rev Growth – We est that Google has generated ex-FX Ad revenue growth of 16–21% for the last ten qtrs, including Q3’s impressive 4pt Q/Q accel. This is remarkable consistency for such a large company. It says something very positive about secular Internet growth and Google’s execution against that opportunity. We estimate 19% ex-FX Ad revenue growth in Q4

Options Volatility Snapshot:  Short dated options prices are well above levels prior to every earnings report in 2015 with 30 day at the money implied volatility at 37.4%, well above the one year average of about 27%:

[caption id="attachment_60858" align="aligncenter" width="600"]GOOGL 1yr chart of 30 day at the money Implied Volatility from Bloomberg GOOGL 1yr chart of 30 day at the money Implied Volatility from Bloomberg[/caption]

This is extraordinarily high for a company the size of GOOGL, but to put these prices in some context, let’s look at AAPL, a company very near the size of GOOGL, whose 30 day IV prior to its report last week was also in the high $30s. It’s vol then saw a drop right after the print to the mid 20s.

No matter what your view, or positioning, short premium trades against long or short stock could make a lot of sense.

MY VIEW: Given the areas of strength for Facebook last week in their Q4 results, I would be surprised if much of their gains cam at the expense of GOOGL pain. If there is a hitch for GOOGL it could be the adverse affect of the strong dollar as more than 50% of their sales come from outside the U.S.  And that little thing about expenses. Many, like employee compensation do not show up in adjusted eps.

On a beat and no negative commentary about ad budgets and weak ad sales abroad and the stock does what FB did last week, breaks out to new highs.

An inline quarter and acknowledgement of weakness abroad and blaming dollar strength for disappointment and the stock does what Amazon did last week after its report, down about 8%.

We will follow up with some trade ideas for those with a directional inclination into the print.

I would add that this will at first report that they breakout their core ad business from their parent Alphabet’s other investments and business lines.  Read Re/Code’s preview here: What to Look For When Google Unmasks Its Alphabet Moonshot Numbers Today