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March 20, 2006

The Key Metric at Google : Revenue per Query

posted by MR WAVETHEORY at 3/20/2006 11:46:00 AM
If there is one metric at Google that should be looked upon, it is revenue per query (RPQ). It is also the metric that Google no longer releases. Google only released its RPQ in Q4 2004.

Why do I think RPQ is declining?

Eric described that Google's revenue equation is simple. It is:

Number of queries X Click through rate X Cost per click = Revenue

Eric also described during analyst day and in the 10-K that primarily, revenues grew in Q3 and Q4 2005 due to increases in traffic (You can find the post in my prior post.) This is the first term in the equation. He also said that monetization improved which means the second term. What Eric did not talk about improving is the third term. So, by process of elimination, I conclude that RPQ is declining. That is the process of elimination, My Dear Watson.

Mary Meeker caught on to the declining cost per click

Below is an excerpt from the Q4 2005 conference call. Mary Meeker hit the nail on the head when she asked Eric - Is cost per click declining? You can see that Eric avoided answering the question since he was "running out of time." Eric dodged the issue.

Mary Meeker
Thank you. If we compare the 3rd quarter sequential results with the 4th quarter results, I think you said on your last call your query growth was kind of flatish, I don’t want to put words in your mouth, so please correct me if need be. And the revenue growth was pretty powerful so the monetization increase sequentially in the September quarter was very high. In this quarter, you in your press release and on the call you talked about seasonal strength in traffic and also in monetization. Could you give us a little more color on the differences in the degree of incremental monetization you had in the 4th quarter versus the degree of incremental positive monetization you had in the 3rd quarter? Thanks.

Eric Schmidt, Chief Executive Officer
This is Eric. We saw both strong user traffic in the December quarter as well as continued improvement in the monetization. I wouldn’t characterize them as being on the monetization side as being materially different than the rate of improvement that we saw in Q3. We are continuing to invest heavily in improvements in quality; those improvements in quality and many other enhancements that we offered in our product line, result in continuous improvement every quarter in monetization on a constant flow of traffic. In addition to that, traffic grew quite strongly, perhaps because of seasonality, perhaps because of gains in market share, perhaps because of all the new products, or perhaps because of a combination of all three. But we know that both are working and when both are working well, we see very, very strong resonant growth, which is of course wonderful.

What I’d like to do now since we’re run out of time is go ahead and wrap up by saying that to all of you first, thank you for taking the time to be on the call. We’re very, very pleased with our performance on every level.

Most analysts estimate the Google will earn $12 per share in 2007. I find it hard to believe. Google cited in its own 10-K filed last week that earnings growth is slowing and no longer accelerating. If earnings growth was 55% last year, then I expect it to be less than that this year. But the question remains

What is a reasonable rate of growth for Google?

A good proxy for estimating growth are comps - the largest comps like Amazon and Yahoo. Long term growth estimates at Yahoo are 25% over the next 5 years and at Amazon they are 20%. Give Google the benefit of the doubt, and let's say it is 35%, that is still substantially lower than the 55% consensus estimate.

Is growth becoming a problem? Yes, there are signs of trouble.

The biggest sign of trouble for a search engine arrives when they are trying to grow using "monetization improvements." Eric cited that term at least 3 times during the Q4 call. Recently, I came across this post on how Google is testing new UIs. As someone who knows search, I can tell you that you test new UIs to accelerate click throughs. Amr Awadallah, an engineer at Yahoo, has a post on Google revenue accelerators. Amr insightfully predicted Google's Q4 miss.

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