November 30, 2010 / 9:42 PM / 7 years ago

Analysis: Spotlight trained on Google's cash pile

SAN FRANCISCO (Reuters) - Google Inc, whose technology helped make sense of the Web’s vast trove of data, now faces an equally daunting task: spending its growing cash hoard wisely.

The Internet search leader’s $33 billion in cash and short-term investments, one of the largest war chests in the technology industry, is getting on Wall Street’s radar. Some analysts warn that shareholders could become disenchanted if Google does not find good uses for that swelling purse, amid some grumbling about its investments in self-driven cars and wind energy, among other non-Web businesses.

Google is but one of just two holdouts among the 10 largest U.S. technology companies by market capitalization -- the other being Apple Inc -- to either not pay a dividend or regularly repurchase its shares. And with Google generating more than $2 billion a quarter in operating cash flow, its stockpile is gaining attention.

“Investors really want to know what Google’s strategy is for its huge cash position,” said Cowen and Co analyst Jim Friedland. “At some point, they’re going to have to return cash to shareholders or their stock is going to get penalized for it,” he said.

A blockbuster acquisition to return the company to outsized growth may do the trick. The focus on Google’s cash comes as the company emerges from the recession with a renewed appetite for acquisitions aimed at developing businesses outside of search and competing with a new set of rivals, like Facebook.

To watch Reuters Insider report on Google's cash stash, click: link.reuters.com/kyg67q

link.reuters.com/cyw77q

Google has had discussions with Groupon about buying the fast-growing e-commerce service for as much as $6 billion in what would be its largest acquisition ever, according to the New York Times. And it made an informal offer to buy microblogging service Twitter earlier this year, according to the Business Insider blog.

Jerome Dodson, president of Parnassus Investments, which owned 337,000 shares of Google as of September 30, said such acquisitions shouldn’t deter Google from dividends or buybacks.

“They still have enough money to make acquisitions, even if they returned only half the cash,” said Dodson.

“I don’t want to stop them from developing things because they’re clearly talented engineers,” he said. “Maybe for every dollar they do either on R&D or acquiring another company, if they could give a dollar back to shareholders, I would be delighted.”

KID IN A CANDY STORE

Thrivent Asset Management fund manager Michael Binger said Wall Street is critical of companies with large cash balances in today’s low interest-rate environment. But he did not want to see Google pressured into recklessness.

“What I don’t want is to see them spend billions of dollars just because they have it. I want to see them spend it effectively,” said Binger, whose firm owns Google shares.

Over the past half-decade, the company has grown its net cash by as much as 70 percent annually on average, according to Reuters calculations.

The Mountain View, California, company, whose informal motto is Don’t Be Evil, continues to invest in a variety of disparate projects, like infrastructure for wind farms and self-driving cars, whose immediate payoff is unclear at best. The amount of money spent on such initiatives is believed to be minimal, but for some investors the motley assortment of projects are a reminder of how the company’s capital could be better used.

For RCM Capital Management’s Walter Price though, spending on initiatives such as wind farms helps burnish Google’s image and attract young, environmentally conscious engineers.

“It’s free advertising in a way,” said Price, whose firm owns about 1.1 million shares of Google according to Reuters data.

Google controls roughly two-thirds of the global search market, but is facing increased competition from Microsoft Corp’s Bing search engine. Google is also increasingly battling tech-industry heavyweights Apple and Facebook, as the boundaries between mobile computing, social networking and Web search increasingly become blurred.

And Google, which spent $2.8 billion on research and development in 2009 and about $1.5 billion on capital investments so far this year, is aggressively moving to increase its engineering and sales staff. The company has more than 23,000 employees worldwide, and more than 2,000 job listings on its website.

Google’s cash hoard gives it a powerful weapon as it seeks to position itself in the shifting competitive landscape. Google has already announced more than 20 acquisitions in 2010 -- the most deal-heavy year in company history -- but most of the deals have been small.

BUY THEM ALL

Some analysts and investors note that Google’s cash reserves have grown so large that the company could acquire three of the fastest-growing Web companies -- Groupon, Twitter and Zynga -- and still have plenty of cash leftover.

“If the point of being a growth company is to reinvest this cash into growth ... are there any targets out there that Google could conceivably use its cash on?” asked BGC Partners’ Colin Gillis. “If (Google) bought Groupon, Twitter and Zynga, you’re probably only denting under $10 billion.”

Shares of Google, which closed Monday at $582.11, are up roughly 34 percent from their 52-week low.

To increase the earning power of its cash hoard, Google has broadened its investment portfolio from primarily U.S. Treasuries to slightly higher risk assets including foreign government bonds and agency residential mortgage-backed securities. Google has also built a special trading room at its headquarters where a team of a dozen traders, portfolio managers and analysts work.

Google does not disclose details of the group’s returns, though analysts estimate it generates a return on investments of 2 percent to 2.5 percent versus the 1 percent more typical for corporate cash holdings.

Google has repurchased its stock on a case-by-case basis in the past, such as after the acquisitions of AdMob and On2 Technologies, to offset dilution.

In July, Chief Financial Officer Patrick Pichette told investors during a conference call that the question of repurchasing shares is regularly debated by the company’s board of directors but that Google had nothing to announce on the matter.

Cowen’s Friedland believes that Google will have no choice but to initiate a stock buyback within 18 months.

“When the cash position gets to a certain point, and it’s not there yet, but probably in a couple of years, the shareholders will start to get restless and start to give Google a lower value because too much of the stock price is in cash, which doesn’t have a real return,” he said.

Editing by Edwin Chan, Richard Chang and Andre Grenon

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