Google's (GOOG) Black Box Wins, Again

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Almost no one knows what an algorithm is. The management at Google (NASDAQ:GOOG) doesn’t care. The company’s shares are up almost 20% after hours. Those who doubted the firm’s ability to improve its business had been selling the stock off since the beginning of the year.

All of the evidence from the first quarter, based on studies from internet measurement firms like comScore and large buyers of Google keyword inventory, said the growth the big search engine’s ad units was slowing, perhaps to a rate as poor as 5% year-over-year.

To some extent, analysts were right. In the US, the rate of ad growth slowed to 20%. It had been 30% in the fourth quarter of last year.

Google’s profits rocketed 30%. Revenue moved up 46% to $3.7 billion. The company reported net income of $1.31 billion, or $4.12 a share, compared with $1 billion, or $3.18 a share, a year earlier. The EPS figure was well above analyst estimates.

What happened to Wall St. is that it was fooled into thinking that Google’s growth had nearly stopped. More important, investors did not understand that the firm had built a better black box, again.

The advantage Google has had for five years now over competitors like Yahoo! (NASDAQ: YHOO) is that the basic "math" that finds accurate search results is better than any other company’s. The math for matching those search results with advertisers is even better.

The process which Google employs to get these superior results is kept in a vault, perhaps Fort Knox. It is probably the most valuable intellectual property in the world. Wall St. may have assumed that the engineers at Google had stopped working on the system. But, that would not be giving the unusually successful company  or its management their due.

Google probably has hundreds of people working, constantly, on improving its algorithms to drive more and more accurate results. Microsoft (NASDAQ: MSFT) and Yahoo! have teams equally eager to turn their science into magic, but they are, at best, a year or more behind the leader.

Wall St. was suckered. Google is still finding better solutions to the problems of search, at a geometric pace.

Douglas A. McIntyre