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Google's Profit Falls For The First Time

MICHAEL LIEDTKE   01/22/09 09:56 PM ET   AP

Google

SAN FRANCISCO — Google Inc. reported its first-ever drop in quarterly profit Thursday, but the Internet search leader is still weathering the economic storm better than analysts anticipated.

The fourth-quarter results indicated Google was able to rein in its free-spending ways enough to offset a slowdown in the online ad market that generates most of the company's revenue. That contrasted with a missed forecast and 5,000 layoffs announced earlier in the day by rival Microsoft Corp.

Even so, there were signs the 13-month-old recession is starting to bear down on Mountain View-based Google.

The downturn forced Google to write down $1.1 billion of the combined $1.5 billion that it has invested in two troubled companies, AOL and Clearwire Corp. And Google is allowing its 20,222 employees to swap their outstanding stock options for new ones that will carry a lower exercise price, giving the workers a better chance of making money from the options.

The move was driven by a 47 percent drop in Google's stock price over the past year, leaving about 17,000 employees holding options that are "under water" and can't be cashed in now at a profit.

Although he hailed his company's strength in a decrepit economy, Google Chief Executive Eric Schmidt signaled the challenges are becoming more daunting by describing the fourth quarter as "the easy part" and calling the upcoming months "uncharted territory."

"We don't know how long this period will last," Schmidt told analysts in a conference call. "We obviously hope it will be short. We're certainly prepared to get through this, no problem."

Google made $382 million, or $1.21 per share, in the three months ending in December. That was a 68 percent drop from the same period in 2007. Google's profit had climbed by at least 17 percent in its previous 17 quarters as a public company.

If not for employee stock compensation costs and the charges on its deteriorating investments, Google said it would have made $5.10 per share. That beat the average estimate of $4.95 per share among analysts polled by Thomson Reuters.

Revenue climbed 18 percent to $5.7 billion. That marked the first time Google's revenue growth had fallen below 30 percent from the previous year.

After subtracting commissions paid to its ad partners, Google's revenue stood at $4.22 billion _ about $100 million above analyst estimates.

Google shares slipped $8.18, or 2.7 percent, in extended trading after finishing the regular session at $306.50.

In a sign that skittish consumers are still coming to Google when they want to shop, the fourth-quarter volume of clicks on Google's ads rose by 18 percent from the same time in 2007. That's important to Google because the clicks trigger payments by advertisers.

"Our business is quite healthy, especially given the economic climate," Schmidt said.

Google is holding up far better than rivals like Yahoo, whose earnings have been sliding for much of the past three years, and AOL, which has become an albatross for its owner, Time Warner Inc.

AOL's woes are now hurting Google, which paid $1 billion for a 5 percent stake in AOL in 2005. The $726 million hit that absorbed on its AOL stake suggests AOL's market value now ranges between $5 billion and $6 billion. The estimate could be of particular interest to Yahoo, which has been mulling a possible merger with AOL.

Even though its revenue is still rising, Google has become more frugal to better position itself during tighter times.

Besides closing little-used or unprofitable services, Google has been clamping down on its payroll. The company added just 99 workers in the fourth quarter _ down from an average quarterly increase of 1,300 employees in the past two years _ and recently laid off 100 recruiters because it no longer needs them. What's more, Google spent just $368 million on capital projects in the fourth quarter, a 46 percent drop from the previous year.

"It's a sign that the company thinks its revenue growth is not going to be what they thought it was going to be," said Signal Hill Group analyst Todd Greenwald. If the recession deepens, Greenwald and other analysts suspect Google's revenue in the current quarter could be lower than it was in the fourth quarter. If that happens, it would be the first sequential decline in Google's quarterly revenue.

Google steadfastly refuses to make projections, but management acknowledged the company's performance this year will depend on an economic revival.

"If there's less commerce overall, you know, then that's going to adversely impact Google," Jonathan Rosenberg, who oversees the company's products, told analysts.

While cost-cutting in leaner times is smart, it doesn't inspire confidence among investors, said Canaccord Adams analyst Jeff Rath. "People don't go rushing out to buy the stocks of companies that are cutting costs to meet their numbers," he said.

Patrick Pichette, Google's chief financial officer, said the company isn't going to turn into a total miser.

"Yes, we are being prudent, but we are still going to be investing for the future because we are still optimistic about the future," Pichette said in a Thursday interview.

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Filed by Nicholas Sabloff  |