Google will be bigger than Microsoft

The phenomenon known as Google (NASDAQ: GOOG) is beyond remarkable. It defies almost any MBA course case study. This company was founded in 1998 -- less than 10 years ago! The company went public in August 2004 and has already captured a market capitailzation of $160.6 billion. The company has delivered earnings and revenue consistency that almost belies logic. It has literally beaten every quarter's estimates and yet provides little to no guidance. In the next five years, Google will be bigger than Microsoft (NASDAQ: MSFT) in the most important metric: market capitalization.

Microsoft has been a darling of Wall Street for 20 years. The company currently has a market capitalization of $287 billion, a full $127 billion larger than Google. Microsoft has embarked on a new product upgrade cycle with the new Vista operating system. Microsoft is back on a decent growth trajectory and patient shareholders should be rewarded. For the fiscal year ending June 30, 2007, Microsoft should have revenues of $51 billion and earnings per share of $1.50. Fiscal year ending June 2008, I estimate revenues of $56 billion and earnings of $1.72 per share. Solid growth with incredible cash generation, but Microsoft sees Google close behind in its rear-view mirror and it's gaining quickly.

Google is difficult to classify. Which sector does it really belong too? It's a media company. It's a technology company. It's a consumer company. It's an advertising/marketing company. It's an enterprise solutions company. It's all of the above. Google in a short period of time has penetrated all of these sectors and is a powerful trendsetter in all of them. Google owns the all-important search engine market and other elements of the business extend from there. The internet marketing/advertising sector is in the early innings of the ball game. Google literally forced Microsoft to overpay for aQuantive (NASDAQ: AQNT) just to keep a seat at the table. Most analysts including yours truly felt AQNT would sell for $50-52. Microsoft is paying $66.50 -- the Google effect cost Microsoft an extra $15 per share for aQuantive!

What continues to make Google a compelling buy is its operating margins and pricing power. The leader gets to set the prices. The company's operating margins are sturdy and sustainable at over 50%! The research and development spend is holding in the low teens as a percent of revenues which is normal. Some have questioned if Google has underspent in R&D. No way. What professional portfolio managers value the most with Google is its operating margins, then throw in the revenue and earnings growth of over 35-40% per year. Then for good measure, Google is not only taking market share in its core businesses, it is defining the market scope and pricing structure.

So where does Google go from here? With expected earnings per share this year ending December 2007 at over $15 and December 2008 earnings per share over $20 (that's of course before Google beats the estimates and analysts raise them again), the next stop is $600-625. Members of my web site know I have a price target of $625, but then I will adjust it higher! I could write another article arguing that Google is actually under valued -- but that's for another time.

Google has an incredible opportunity to race up to a $500 billion market capitaization within the next five years if not sooner, and it will be bigger than Microsoft...

Georges Yared is the CIO of Yared Investment Research. For more growth stock ideas please visit the web site.