All eyes on Google

By Yi-Wyn Yen

Google’s shares have lost a third of their value since the start of the year, and concern is growing whether the small text ads Google serves are partly to blame. That will be one of the top things Wall Street will pay attention to when Google (GOOG) reports earnings Thursday after the close of trading.

“Revenue growth and paid clicks. That is what is on everyone’s minds,” says Imran Khan, an Internet analyst with J.P. Morgan.

In late February, comScore released a controversial report that had many analysts convinced that Google was not immune to a recession. The comScore report suggested that Internet users in the United States were clicking on Google ads less frequently. Some analysts began slashing their price target on Google, which gets 97% of its revenues from online ads, after the report showed that Google’s ‘paid clicks’ were flat in both January and February from the same period a year ago.

Tuesday evening comScore issued its latest report that showed Google’s paid clicks grew 3% in March year-over-year. But this time, analysts remain more cautious of the comScore’s numbers and warned investors against reading too much into the data. “We…believe that it is most useful for spotting trends,” wrote UBS analyst Ben Schachter in a report.

Is the slowing growth of Google’s paid clicks due to a weaker economy or because the company is actively managing the volume of its own ads? Google, which does not give forecasts for future performance, has said it is the latter and it is working on weeding out the poor quality clicks.

If that is the case, Google will still have to prove that its quality control initiatives translated into higher-revenue growth for the first quarter. Google believes that by placing fewer ads, it will be able to charge higher rates per ad.

Schachter is skeptical that the revenue generated by fewer, higher-quality ads will make up the difference. “Google may have made some pricing improvements, but we don’t believe they will be enough,” he wrote.

“We simply disagree with the notion that pricing out the lower quality advertisers will somehow result in higher quality advertisers paying higher rates in the near-term,” he added.

Besides paid click revenue, there will be plenty of other topics to discuss about Google’s first quarter. In an effort to push for open standards among mobile operators, Google entered the 700 MHz spectrum auction. In the second half of the year, Taiwanese manufacturer HTC is set to release a handset that uses Android, Google’s own mobile operating system.

The search giant also closed its $3.1 billion acquisition of DoubleClick, the industry’s top ad server. Analysts will also pay particularly close attention to Google’s integration plans for DoubleClick. In April, Google laid off a quarter of DoubleClick’s 1,200 U.S. employees.

The DoubleClick deal is largely seen as a way for Google to grow its display advertising potential. Wrote Citi analyst Mark Mahaney, “We believe that traction with the DoubleClick deal – along with mobile Internet and YouTube monetization progress – can provide material stock catalysts” for the second half of 2008 and first half of 2009.