This Just In: Upgrades and Downgrades

At The Motley Fool, we poke plenty of fun at Wall Street analysts and their endless cycle of upgrades, downgrades, and "initiating coverage at neutral." Today, we'll show you whether those bigwigs actually know what they're talking about. To help, we've enlisted Motley Fool CAPS to track the long-term performance of Wall Street's best and worst.

And speaking of the best ...
Although down from where they were trading just two weeks ago, Google (NAS: GOOG) shares are gaining momentum again this week. For this, you can thank the friendly analysts at Citigroup, who returned from their Thanksgiving fare to feast upon cheap Google shares Monday.

What is it about Google that so attracts Citi? Has the Internet behemoth, which already owns 46% of the market for online advertising, managed to steal even more share from rivals Microsoft (NAS: MSFT) and Yahoo! (NAS: YHOO) ? Or does the analyst predict that the new "Cluzee" Android app will outperform Apple's (NAS: AAPL) Siri and secure Google's place in the market for smartphones?

Actually, no. Neither of those. What convinced Citi to change its opinion on Google is simple math. As Citi explained: "Google has sustained 28% organic revenue growth, it has begun to show signs of margin stabilization, and its valuation has become more attractive as estimates have increased while its share price hasn't. ... Hence the upgrade."

Valuation matters
On the face of it, this makes perfect sense. Google today costs about 20 times earnings, or 16.5 times earnings once you net out the company's cash reserves. (The stock's a little more expensive if valued on free cash flow, but still within the same ballpark.)

Right off the bat, this makes Google stock look attractive if the company achieves only the 19% long-term earnings growth that most analysts expect of it. But what Citi seems to be telling us is that these estimates are conservative. If revenues continue to rise at 28% per year, while margins stabilize, this would logically translate into long-term earnings growth of 28% per year as well. And paying 16.5 times earnings for 28% growth ... that's about as easy a no-brainer investment as you get in this business.

Step 1: engage brain
My question, though, is whether it's reasonable to expect 28% long-term earnings growth out of Google -- because from where I sit, this company is getting less and less predictable with each passing year.

So far, what began as a company that did one thing -- Internet search -- and did it remarkably well has morphed into a maker of smartphones, a television producer and cable set-top box manufacturer, and an investor in ... windmills. And while it's true Google is still dominant in search, I worry that more innovative companies may be eroding the company's lead there.

I refer not just to Apple and its Siri personal assistant, but also to IBM (NYS: IBM) and its Watson supercomputer. To Microsoft and its aggressive efforts to improve Bing. To any number of competitors, small and large, which vie to upset Google from its Internet search throne. I worry, too, that the more pots Google sticks its hands into as it strives to build an Android ecosystem, the more competitors the company will encounter, and the more antitrust lawyers it will need to contend with.

In particular, I wonder what will happen to Citi's promise of 28% long-term growth at Google when it runs into the reality of what Google has become.

Foolish takeaway
Fools, I'm a longtime Google shareholder myself. I make no secret of that. But the longer I own this company, the less I recognize it -- and the more I wonder whether it's time to move on.

Now that Google has morphed from upstart to giant, and now that it's spending more cash buying other upstarts to expand its empire, it seems to me the better play today might be to avoid Google, per se, and focus instead on profiting from the kinds of companies Google might buy in the future. I mentioned earlier this month how speech-to-text specialist Nuance Communications (NAS: NUAN) looked particularly interesting to companies competing in the voice-search market, as Google, IBM, and Apple all do. Virtual genealogist (NAS: ACOM) is another possibility, and one trading (by my calculations) at a sizeable discount to intrinsic value today.

If you ask me, these are the kinds of companies Citigroup should be focusing its research upon. As for Google, its brightest days are behind it.

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At the time thisarticle was published Chalk it up to inertia -- or perhaps to the requirements of the Fool's ironcladdisclosure policy-- but Fool contributorRich Smithdoes indeed still own shares of Google. You can find him on CAPS, publicly pontificating under the handleTMFDitty, where he's currently ranked No. 318 out of more than 170,000 members.The Motley Fool owns shares of Yahoo!, Microsoft, Apple, Google, and IBM.Motley Fool newsletter serviceshave recommended buying shares of Nuance Communications, Apple, Microsoft, Yahoo!, Google, and, as well as creating a bull call spread positions in Microsoft and Apple. We Fools don't all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.

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