Google Files For $2.7B Public Offering

UPDATED: Google, the acknowledged search leader, ended months of
rumor-mongering and breath-bating Thursday when it filed its registration for one of the most eagerly anticipated public stock offerings in years.

The IPO, which Google expects to bring in some $2.7 billion, will be
led by Morgan Stanley and Credit Suisse First Boston. As rumored — and hoped
for by populist Google fans — the offering will use a variation of the Dutch auction method. Google will add a process to try to keep a lid on IPO mania by requiring potential bidders for IPO shares to become certified.

Google’s triumvirate — founders Sergey Brin, Larry Page and Eric Schmidt —
dismantled the company’s wall of silence with a remarkably open
and forthcoming letter included in the registration, explaining in detail their reasons for going public and how they plan to handle the demands of public scrutiny.

The founders’ letter is titled “An Owner’s Manual for Google’s
Shareholders,” but the 171-page filing itself could be used as a how-to
manual for competitors. The executives admit that, with total assets of
$1.08 billion, the main reason to go public was that, under SEC rules,
Google’s size had forced it to open its books today, going public or not.

According to the SEC filing, the $389.6 million Google raked in for the
quarter ending March 31, 2004 more than doubled year-over-year, while
expenses more than tripled as Google invested in staff and infrastructure
while buying technology companies. Profitable since 2001, it earned $105.6
million in 2003, with total revenue of $961.8 million.

If all eyes are on Google, its competitors are using a microscope on this
document, trolling for information they can use. Microsoft reportedly is developing its own search technology for the
thriving MSN, and Yahoo!’s Overture pay-per-click ad
service is breathing down Google’s neck. Meanwhile, upstart
search marketing providers are nipping at its heels.

According to research firm eMarketer, U.S. ad spending on paid search will
rise from $2.5 billion in 2003 to $3.2 billion in 2004, a 25.5 percent increase. The revenue growth for paid search will far outpace online advertising in general, which eMarketer projects at 15.6 percent growth for the year.

Jupiter Research said search marketers buy both Google and Yahoo! keywords. Its Bi-Annual Search Marketing Executive Summary, published in February 2004, found that 89 percent of marketers allocate some spending to Google, while 77 percent allocate a portion of the buy to Yahoo!/Overture. (Among those marketers who kept track, 57 percent said Google gave the best leads, compared to 31 percent who thought Yahoo! served them better.)

According to Internet audience tracking firm comScore, in February,
Google controlled approximately 35 percent
of searches conducted at major search engines by U.S. Internet users, with
Yahoo! handling 30 percent. Internationally, Google provided 43 percent of
all searches.

“I think Yahoo! is going to give Google a run for its money,” said Tom
Taulli, co-manager of the $10 million Oceanus Value Fund and a finance professor at University of Southern California. “Overture competes for the same customers as Google, and they know what kind of terms Google is giving to customers.” Taulli said rumors are floating around that Google is undercutting competitors’ prices in an attempt to keep market share.

“There’s not a lot of loyalty out there,” Taulli added. With all the talk about Google and its IPO, it’s almost inevitable that some of it will devolve into trash talking.

In Taulli’s view, Google is starting to look a lot like Yahoo!, which at its height, “thought they owned the world. And they would snub so many people.”

The launch of Gmail, the free Google e-mail service, upped the odds in
its battle against Microsoft’s MSN and Yahoo! “As they launch new products
in new markets, they are going against established, entrenched players,”
Taulli said. “That’s not always easy for a young company going through the
distractions of the press and an IPO.”

And Google made some serious missteps with the launch. Privacy experts
heaped criticism not only on Gmail, but on Google’s handling of the hoo-hah.
Jupiter Research analyst Michael Gartenberg said the company’s reaction was
immature. “Part of the maturation process is understanding how to react and
deal with criticism — which they haven’t done particularly well,” he said.

In the Founders’ letter, executives warn investors, “We will not shy away
from high-risk, high-reward projects because of short-term earnings
pressure. Some of our past bets have gone extremely well, others have not.
Most risky projects fizzle, often teaching us something.”

But Google faces much more than an attitude adjustment; it must continue
to adjust its business model and create new sources of revenue. As a public
company, it will have to prove to Wall Street that it can continue to grow,
an onus that inevitably will move it further into enemy territory. Taulli
said, “To justify the valuations being thrown around, they have to go beyond
search. That’s always a difficult thing.”

But there’s no evidence that
Google is capable of the complicated business development maneuvers
necessary to build a destination site.

In the usual risk factor section of the prospectus, Google listed its reliance on advertising to generate about 95 percent of its revenues. The “reduction in spending by or loss of advertisers could seriously harm our business,” the filing said.

Google’s own network of Web sites also is key to its future revenue growth.

“The net revenues generated from the fees advertisers pay us when users click on ads that we have delivered to our Google Network members’ Web sites represented approximately 15 percent of our net revenues in 2003, and approximately 21 percent of our net revenues for the three months ended March 31, 2004, and we expect this percentage to increase in the future,” Google’s filing said.

“We consider this network to be critical to the future growth of our net revenues. However, some of the participants in this network may compete with us in one or more areas. Therefore, they may decide in the future to terminate their agreements with us. If our Google Network members decide to use a competitor’s or their own Web search or advertising services, our net revenues would decline.”

Tech Veteran at the Helm

Google has a strong and seasoned leader in CEO Eric Schmidt. The veteran of
Novell and Sun Microsystems knows what it’s like to feel the boot of
Microsoft, Taulli said. “He’s been through the ringer several times and
understands how you can be on top of the world today, and tomorrow be just
yesterday’s news. He can keep things together and not allow hubris to start
coming in.”

Two months ago, the company hired Dave Girouard as general manager of
Google Enterprise, the little-known division that supplies corporate search
appliances. The hardware/software combo can be configured to crawl all or
part of an intranet, logging 200 file types. Launched in 2002, “It was kind
of a bottoms up initiative,” Girouard said. “I was brought in to a new
position created to really give this thing some senior attention.”

“The portalization of Google has already begun,” said Jupiter Research’s Nate
Elliott — although that word would never leave Google executives’ lips. (Jupiter and this publication share the same parent company.) Behind all that
white space on Google’s front page are links to university, government and book sites, the Froogle shopping comparison service, catalogs, Usenet groups, news,
local listings and the Orkut friend-finder.

But this has been a dangerous direction for search leaders to head in,
Elliott said. “Altavista was the leader in search, and now it’s nowhere.
Yahoo! was a leader in search, and it stumbled badly in its move and had to
fight its way back to the top.”

Google hasn’t realized it’s a media company, not a technology company,
Elliott added. It’s so successful because consumers love its search — but
they don’t pay the bills. “If they’re making a billion dollars off
[advertisers], they ought to treat them well.” Elliott pointed to a huge
blunder last year when Google changed its AdSense contextual ad service to
in some cases offer a link back to its own search site, effectively
competing with its advertisers. The change was eliminated in just 24 hours.

“That was an example of technology folks thinking about what might be
good for consumers, but not talking to the media folks,” Elliott said.
“Slipups like that show it will be a difficult transition.”

But transition, it must. Right now, Google is in a corner, said Lance
Podell, president of Kanoodle, a Google competitor. One reason Yahoo! was
able to make the transition from Web directory to portal, he pointed out,
was that it was search-agnostic, relying on a series of third-party
distribution deals before it bought Overture, the company that originated
paid search listings. In fact, Google was the final search provider that
Yahoo! dumped when it brought Overture in-house.

“Yahoo!’s success out of the gate was their marketing,” he said.
“Google’s success was technology. Yahoo! originally picked search to be what
their brand was about, but it was not locked into a technology model that
didn’t allow them to do different things. Google’s business model is to be
search for all things to all people. It’s a very big corner, but still a

The SEC filing indicates that Google is trying to resolve the
contradictions between technology and media culture. While it admits that
Google’s culture is scientific and technical, it also lays out a corporate
structure that includes two classes of voters, giving Brin and Page
significantly more control than most public companies. “While this structure
is unusual for technology companies,” it states, “it is common in the media
business and has had a profound importance there.”

Podell thinks that the Google publicity machine will benefit all search
marketing companies — and he plans to compete fiercely on his company’s
ability to let advertisers make separate key word buys for search
listings and content pages, something Google’s automated ad-buying system
doesn’t allow. “One thing that will come out of the Google thing,” he said,
“is that lots of players will raise their hand and say, ‘We’re in this space
too.’ We don’t all have to be as big as Google to be successful. It should
open the marketplace to lot of interesting innovation.”

And even more competition for Google.

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