Yes, this is yet another article about why company A should merge with company B. I hope what this article lacks in originality will be more than made up for with plain old common financial sense.
It’s Good To Be King
Google’s (GOOG) earnings report yesterday has solidified without any doubt that Google continues to be the king of the dot com world. Google had 4th Quarter revenues of 5.7 billion, representing an 18% increase over the fourth quarter 2007. These results are remarkable considering the current macro economic challenges we are facing. These earnings only add to Google’s formidable war chest – $15.85 billion as of December 31, 2008 to be exact. Google has not only been able to deliver – but it also has been able to keep the wolves at bay.
Microsoft (MSFT) and Yahoo (YHOO) continue to struggle to gain reasonable traction in the search business. As of December, Google has still been able to maintain is formidable lead against competitors. (Source: Comscore.) With all of this going for Google, I argue that now is the time for Google to seize the opportunity of depressed market valuations and seal its claim as the preeminent global internet powerhouse.
One Trick Pony?
It was nearly a year and a half ago that Steve Ballmer called Google a “one trick pony,” pointing out that Google has not had much success in business areas outside search engine advertising. What was true then is still true now. A look at the full year results for 2008 confirm this. The earnings report yesterday illustrates that 97% of all Google’s revenue came from advertising.
There is no question Ballmer is right with his criticism, granted a darn good money making pony, but still one trick nonetheless. People that disagree with this assessment need look no further then Google’s own efforts to (what’s that word?) DIVERSIFY. Google Base, Google Checkout, and the Android mobile OS come to mind. In fact, the desire to come up with new and inventive things beyond search is so ingrained in the culture – the company encourages personal projects and has a whole “labs” section devoted to such arcane subjects as maps of Mars (how the company would ever monetize that was always beyond me).
Why eBay (EBAY)?
I ask why not? It’s a natural fit. Google has already tried to create an eBay clone with Google Base. It already tried to create a PayPal clone with Google Checkout. It was also no secret that Google was one of the few suitors during the bidding wars for Skype.
As I’ve discussed in previous articles; many investors do not realize that eBay.com is a huge conglomerate of dot com properties. My previous thesis even went as far as showing that eBay.com proper was actually not even priced in at a valuation. That was when eBay was trading far higher than today. Based on current valuation – eBay is even more of a compelling value play. (Its price is nearing book value.)
The Crown Jewel
As I said, it’s no secret that Google derives 97% of its revenue from ads from its search functions. It's a tenuous position considering the fickle loyalty we witnessed when users seemed to flock overnight to Google from Yahoo back in early 2000s. Regardless of the ability of another site to disrupt Google’s blue ribbon position, Google is smart enough to know that it should diversify. Enter Google Payments, at less than 10% market share, and neophyte services (like buyer/seller moderation) – it’s not exactly the PayPal killer it was perceived to be.
Google would be able to diversify and become the leader in not one but two segments of the internet landscape in one fell swoop. What Google is to search, PayPal is to peer-to-peer payments. With PayPal’s recent acquisition of Bill Me Later, it now commands a nearly 90% market share of e-payments. Like Google, PayPal grew revenue and earnings in Q4 of 2008 – it is the undisputed crown jewel of eBay’s empire; growing and very profitable. But why stop at two?
A Jewel in the Rough
Skype has always been an enigma to me - based on why my financial colleagues have called it, you would think it is the dot com equivalent of the Yahoo/ broadcast.com acquisition. Adjectives like “overpriced”, “unprofitable”, “no future”, “no synergies”, “biggest loser” – by the time you're done reading about Skype, you would think it was as limp as the sock puppet from Pets.com. If there is one thing I agree with the critics, is there are no natural synergies with eBay.com and/or PayPal. Skype doesn’t offer a significant advantage over picking up a phone and calling a seller (if you really wanted to). But what it lacked in synergies with an auction site – I believe is the opposite with mobile devices.
It is true that certain technologies, for whatever reason, sometimes take a while to catch on. Take texting for example. It was mainstream in Asia for years before the first teenager got sore thumbs broadcasting his or her life on Twitter. I believe VOIP is similar to one of these technologies. Vonage (VG) never took off, nor did a whole host of available VOIP offerings by big telecoms.
However, the wild card is cell phone apps. Skype already has an application on Google’s Android OS and is soon to complete one for the iPhone. For those not too savvy about what this means, well it means free or very cheap domestic/ international calling regardless of how many minutes you have on a phone plan. I’ve been using the former applet on my cell phone to call internationally, and I’ve found no easier way for me to call the world cheaply on my cell phone then Skype.
Skype now has been profitable for 2 years, and is ACCELERATING user growth (yes, even in this tumultuous 4th quarter). Skype earned 550 million in revenue in 2008. Assuming the current economic crisis hits revenue growth and causes it to decelerate by half to 25% for 2009 next year, we can still expect somewhere around $688 million in 2009 revenue.
A Tarnished Gem
eBay has made a string of extremely controversial moves in 2008. Make no mistake, eBay is undergoing a serious midlife crisis. From prohibiting sellers from leaving negative feedback, to changing free structures, from launching a new flawed search engine, to draconian measures that kicked out many sellers – it would be an understatement to say that eBay changed in 2008. These changes were driven top down as a strategy to go directly head to head with traditional retail outlets like Amazon.com (AMZN).
John Donahoe is attempting to shake the ‘swap meet’ reputation of eBay to a traditional ‘safe’ shopping destination. The changes alienated many buyers and sellers – many buyers turned away by things like the arcane search engine flocked to established retail outlets like Amazon, and many disgruntled sellers have left (taking with them much needed revenue). It’s not hard to see how much negative sentiment eBay has generated with sellers - peruse any message board regarding eBay and you’ll find throngs of ex-eBay sellers spending an inordinate amount of time bashing the company.
Google swallowing up eBay would first accomplish what many sellers and investors have been calling for: a change in management, and second (and more importantly), it would give eBay a much needed shot in the arm by increasing its visibility by increasing the number of eBay listings that would now be subsidized by default Google search placement. Overnight, eBay would increase the amount of traffic it receives simply by Google using its industry leading search engine to funnel prospective buyers to eBay’s listing pages.
Google’s undisputed expertise could make the eBay search engine second to none for product search. In a two bird one stone move, Google could win over ex-eBay sellers by promising a more diplomatic approach to buyer/seller dynamics and increase eBay’s bottom line. Google could appease established advertisers by only displaying ads from casual sellers (a simple filter by excluding high feedback sellers). This would re-invigorate the consumer to consumer marketplace at a time when a lot of us could use some extra cash emptying out our attic.
What Cost?
The question is, what is eBay.com really worth?
Well, in a previous post, I laid out all the numbers and concluded that current valuations have pretty much already excluded eBay.com proper as part of the total valuation at a price of $15 per share.
The value play is all the more compelling at eBay’s current price of $11-$12. Even at double eBay’s current valuation of $15B ($30B Purchase Price) – I argue acquiring eBay and all its assets would be a steal. Could GooBay be a reality? Only time will tell.
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