There is a long-running debate in the value investing community over whether technology, Internet, and new media companies can be considered as value stocks. Traditionalists tend to believe that these emerging industries cannot generally be considered as value stocks given their uncertain earnings, seemingly high valuations, and the lack of long-term history.
There are other value investors, such as Bill Miller—admittedly some don't consider him a value investor—who claim that technology/Internet/etc companies can be value stocks depending on the purchase price.
Of course, ultimately a value investment is based on buying at a low valuation and that is in the eye of the beholder.
Recently, there has been some debate over Google. Is it really a value stock? GuruFocus recently picked up an opinion by Ockham Research suggesting it was. Vgm, one of the respondents to that story, referenced Glenn Greenberg's thoughts on Google and I thought I would quote it.
For those not familiar, Glenn Greenberg has run successful investment funds for over 30 years. He is generally considered to be a value investor, although I think he is more of a 'growthy' investor who probably belongs in the category of John Neff and Bill Miller. In an interview with the Graham & Doddsville publication, Greenberg was asked about his ownership of Google shares (bolds by me):
Graham & Doddsville: How does Google fit in that framework? Earlier you mentioned that you tend to stay away from tech stocks, similar to a lot of value investors, so why do you think you can find value in Google that the market does not already see?
Glenn Greenberg: I think it comes back to your comment that with so many data points and so much buzz, people can get very distracted and make generalizations based on one data point. For example, when Google decided to withdraw from China, there was a huge amount of buzz that revolved around China being the fastest growing market and this being a terrible scenario for the company. Yet, it is actually such a small in part of Google.
For example, the exploding growth of smart phones means so much more to their growth. Or the growth in display advertising is much more important to them. Obviously, it would be better to be in China, but it’s about $300 million of revenue now for a $28 billion revenue company.
I do not think you can get great precision around Google. They own the search market with staggering market shares. I think you have to start out by saying, how is it priced? It is generating about $30/share of free cash flow this year and $34 next year. At the end of 2010 it will be sitting on $100/share of cash, as long as they don’t spend it all on high-priced acquisitions. Thus, at $540, you are paying $440 for $34 of free cash flow in 2011, an 8% yield. That seems really cheap.
Even though there are competitive threats from Apple and Facebook, and traffic acquisition costs that are uncertain for some of these rapidly growing areas, it still seems to me that you are paying a market-type multiple for a well-above markettype company with all sorts of growth avenues, which they should be able to exploit to varying degrees.
Basically, the face of advertising is changing – with internet based advertising it is much easier for the advertiser to calculate an ROI on ad spend. I think that change will be beneficial for Google and something you are not paying a crazy growth multiple for. When I compare Google’s growth to some of the other companies we have in our portfolio with an 8-9% free cash flow yield, it seems materially undervalued.
Greenberg's thinking is more along the lines of Bill Miller than classic value investors. If you relied on the balance sheet, you would never find a company like Google attractive. On the other hand, the risk with Greenberg's thinking is the sustainability of the earnings. The FCF yield looks good if you project it out but can Google maintain that? One has to make a qualitative call on that. For what it's worth, I think a company like Google is far safer than one like Apple. I can't say I'm too knowledgeable about either of them but I have less confidence that Apple can earn the same (or higher) free cash flow 10 years from now; whereas I can see Google maintain it (or increase it.)
Anyway, the point of this post is to not to debate the merits of Google. Rather, it is to illustrate how some investors value such companies. Hopefully it'll make you think about these companies in a different manner. Tags: Google, technology