Google (GOOG) Q3 2014 Results – Earnings Call Transcript

Google Inc. (NASDAQ:GOOG)

Q3 2014 Earnings Conference Call

October 16, 2014 4:30 PM ET

Executives

Ellen West – Investor Relations

Patrick Pichette – Senior Vice President and CFO

Omid Kordestani – Interim Chief Business Officer, Special Advisor to the CEO

Analysts

Eric Sheridan – UBS

Justin Post – Bank of America Merrill Lynch

Mark Mahaney – RBC Capital Markets

Ross Sandler – Deutsche Bank

Ben Schachter – Macquarie

Anthony DiClemente – Nomura

Carlos Kirjner – Sanford Bernstein

Douglas Anmuth – JPMorgan

Mark May – Citi

Peter Stabler – Wells Fargo Securities

Heather Bellini – Goldman Sachs

Paul Vogel – Barclays

Brian Pitz – Jefferies

Operator

Good day and welcome everyone to the Google Inc.’s Third Quarter 2014 Earnings Conference Call. This call is being recorded. At this time, I’d like to turn the call over to Ellen West, Vice President, Investor Relations. Please go ahead.

Ellen West – Investor Relations

Thank you, Jamie. Good afternoon, everyone, and welcome to Google’s third quarter 2014 earnings conference call. With us today are Patrick Pichette and Omid Kordestani.

As you know, we distribute our earnings release through our Investor Relations website located at investor.google.com. So please refer to our IR website for our earnings releases as well as the supplementary slides that accompany the call. You can also visit our Google+ Investor Relations page for the latest Company news and updates. This call is also being webcast from investor.google.com. A replay of the call will be available on our website later today.

Now, let me quickly cover the Safe Harbor. Some of the statements that we make today may be considered forward-looking including statements regarding Google’s future investments, our long-term growth and innovation, the expected [Audio Gap] this presentation and we undertake no obligation to revise or publicly release the results of any revisions to these forward-looking statements in light of new information or future events. Please refer to our SEC filings for a more detailed description of the risk factors that may affect our results.

Please note that certain financial measures that we use on this call, such as operating income and operating margin, are expressed on a non-GAAP basis and have been adjusted to exclude charges related to stock-based compensation and, as applicable, other special items. We’ve also adjusted our net cash provided by operating activities to remove capital expenditures which we refer to as free cash flow. Our GAAP results and reconciliations of non-GAAP to GAAP measures can be found in our earnings press release.

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With that, I will now turn the call over to Patrick.

Patrick Pichette – Senior Vice President and CFO

Thanks, Ellen. As some of you may know, we have a new leader in our Investor Relations team at Google. Her name is Ellen West. That’s the great voice you just heard a minute ago, a second ago. Ellen is a long term Googler who joined us in 2007. Although she is here with us today in Mountain View, she is actually based out of New York and that will give us a bit more footprint on the East Coast as well. So, Ellen, welcome to the team.

With that, let’s dive into the details of Google’s financial performance for Q3. Our gross total consolidated revenue grew a healthy 20% year-over-year to $16.5 billion and was up 4% quarter-over-quarter. Without currency fluctuations, our gross total consolidated revenue growth would have been 19% year-over-year. Google sites revenue was also up 20% year-over-year to $11.3 billion and was up 3% quarter-over-quarter driven by the strength in our mobile search.

Network revenue was up 9% year-over-year at $3.4 billion and was flat quarter-over-quarter driven by improved year-over-year growth in the AdMob and the Ad Exchange businesses. Finally, Google’s other revenue grew a healthy 50% year-over-year to $1.8 billion and was up 15% quarter-over-quarter, this driven by year-over-year growth mainly from the Play Store but also complemented by an increase in licensing revenue.

Our global aggregate paid click growth was strong this quarter, up 17% year-over-year and up 2% quarter-over-quarter. Aggregate CPCs were down only 2% year-over-year and flat quarter-over-quarter. And without currency fluctuations, aggregate cost per click would have been down 1%, and in fact, up 1% quarter-over-quarter.

As we began to do in our last earnings call, we continue to disclose paid clicks and cost per click changes by property type as well in addition to the aggregate number. So to that end, Google sites paid clicks were up 24% year-over-year and up 4% quarter-over-quarter. Google sites CPC were down 4% year-over-year and down 1% quarter-over-quarter. Our network paid clicks were up 2% year-over-year and down 4% quarter-over-quarter and network CPCs were down 4% year-over-year but up 2% quarter-over-quarter. Our aggregate monetization metrics continue to be impacted by a number of factors including geographic mix, device mix, property mix as well as ongoing products and policy changes.

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Turning to geographic performance now, we saw solid performance in the U.S. as well as in the rest of the world. In our earnings slides, which you can find on our Investor Relations website, you will see that we’ve broken down our revenue by U.S., UK and the rest of the world to show the impact of FX and the benefits of our hedging program. So please refer to those slides for the exact calculations. U.S. revenue was up 15% year-on-year to $7 billion. The UK was up 17% year-over-year to 1.6 billion and in fixed FX terms, the UK grew 10% year-over-year. In the UK, growth was impacted by a combination of factors this quarter including platform and property mix as well as tough comps from year-over-year and quarter-over-quarter growth rates for a number of reasons including for example weather. Our non-U.S. revenue excluding the UK was up 26% year-over-year to $7.9 billion. This accounted for 48% of total revenue which includes a 10 million benefit from our hedging program. In fixed FX terms in fact the rest of the world also grew 26% year-over-year, very healthy.

Let me turn now to expenses. Traffic acquisition costs were $3.3 billion or 23% of total advertising revenue. Our non-GAAP other cost of revenue was 2.8 billion in Q3 which excludes stock-based compensation and also a non-cash impairment charge of 378 million related to a patent licensing royalty asset acquired as part of our Motorola Mobility purchase. Non-GAAP operating expenses totaled 5 billion, again excluding SBC. And as a result, our non-GAAP operating profit [Audio Gap] and our non-GAAP operating margin were 32% in Q3.

Headcount was up roughly 3,000 in Q3. In total, we ended the quarter with approximately 55,000 full time employees. And please note that the headcount does include still approximately 3,500 full time employees from the Motorola business. In the past year, we continued to attract and hire the best talent from the best colleges and universities from all around the world. Continuing our past trend, graduate starts are much more heavily concentrated in Q3, which is part of why you are seeing the significant bump in headcount with the majority being tech hires, I want to kind of emphasize.

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Our effective tax rate for the quarter was 22% for Q3 and which includes the impact of the impairment charge that I mentioned earlier which is a non-deductible for income tax purposes.

Let me turn now to cash management. OI&E or other income and expenses was $133 million. Interest income and realized gains on investments offset the continued impact of expenses from our FX hedging program. And for more details on OI&E, please do refer to the slides that accompany this call on our IR website. We continue to be happy with our strong operating cash flow at $6 billion. CapEx for the quarter was 2.4 billion. In this quarter the majority of the CapEx was related to our data center construction, production equipment and real estate purchases, in that order. It’s important to remember that our infrastructure supports all of our products, whether they are core products like or Search or Ads, Maps or YouTube, but in addition to fueling our growth products like Photos and Hangouts, Google For Work and the Cloud platform. If you look at our data center announcements over the last four quarters, you will also see that we’ve been really busy with both groundbreakings and expansion all around the world including Finland, Taiwan, Singapore, recently announced Netherlands in addition to our ongoing investments in the U.S. In total, our free cash flow was then 3.6 billion.

And before I close, I want to give a brief update on Motorola. The team continues to work hard and we look forward to seeing them join the Lenovo team soon. Motorola had a great Q3, with strong user reviews for products like the Moto X, Moto 360 and Moto Hint, clearly demonstrating the impressive momentum of the company.

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