This 149-Bagger Hedge Fund Bought Google Inc. Should You?

Source: Google,

We should never blindly copy any investor's moves, no matter how famous, talented, or successful the investor. Still, it can be useful to keep an eye on what smart folks are doing. 13-F forms can be great places to find intriguing candidates for our portfolios.

For example, a glance at the latest quarterly 13F filing of Appaloosa Management shows that in its last quarter it initiated a position in Google Inc (NASDAQ: GOOG  ) (NASDAQ: GOOGL  ) -- enough to make the holding its fifth-largest.

Why pay attention to Appaloosa Management?
Appaloosa Management was founded by investing giant David Tepper and is known for investing in the debt of companies in distress. Tepper's investing history includes buying debt and stock in companies such as Enron and Worldcom. He made billions on bank stocks in 2009 after they had imploded and before they recovered. More recently, he invested in many housing-related companies. His company's reportable stock portfolio totaled $7.1 billion in value as of June 30.

Why should you look at Appaloosa Management's moves? Well, in a July 2013 letter to shareholders, Tepper noted that a $1 million investment in his hedge fund in 1993 would have grown to $149 million over the past 20 years. Investing in the S&P 500 instead would have left you with $5.3 million. Tepper's performance reflects an average annual net gain of 28% -- no small feat.

Why buy Google?
There are lots of reasons why Appaloosa, or anyone, might buy stock in Google. We can start with a look at its numbers. Its recent P/E ratio of about 30 may seem steep, but its forward-looking P/E is below 20. Both of those numbers are more than reasonable, given the company's brisk growth rate -- its stock has averaged annual gains of 27% over the past decade, and it's up 35% over the past year. Google's recent P/E, price-to-book value, price-to-sales, and price-to-cash-flow ratios are all below their five-year averages, too. It generates more than $10 billion per year in free cash flow, and revenue has more than doubled over the past four years, while earnings have gained more than 50%.

Google is known as the most dominant search engine, but it's much more than that. Its Chrome browser, for example, recently surpassed Microsoft's Internet Explorer in market share, and that growing prominence will help deliver more traffic inexpensively. Its Android mobile operating system powers hundreds of millions of devices, while Google Play facilitates the downloading of more than 1.5 billion games and apps each month. Google's Chromebooks are selling briskly, with sales expected to jump 79% to 5.2 million units this year. The company's portfolio of offerings also includes YouTube, Gmail, Google Glass, and Google Maps.

Put all those together, and it's easy to see how Google overtook Apple to claim the top spot in Millward Brown's annual ranking of the world's most valuable brands. Google is expanding in lots of exciting directions, too. For example, it aims to offer much faster broadband access with its Google Fiber, which threatens conventional cable companies. Further, its acquisition of Nest will boost its Internet of Things and home-automation offerings.

Keep in mind, too, the power and competitive advantage of Google's search dominance, as that grants the company nonstop exposure to consumers, making the rollout of new offerings easier.

Why sell Google?
One reason someone might consider selling Google is that its future isn't exactly certain. It's active in many rapidly changing fields, and it currently earns most of its revenue from advertising -- where rates are falling. That's not a death knell for Google, in part because of its increasing diversification and in part because it's making up for lower prices with higher volume.

Google is also not without significant competition. It may be threatening the businesses of many other companies, but it's also competing with Facebook (NASDAQ: FB  ) for advertising dollars. Facebook has been successful in mining user data in order to offer better targeting, for which it aims to charge higher prices. As if that's not enough, now is eying a bigger piece of the pie with its Amazon Sponsored Links. Google, meanwhile, is offering clients the ability to deeply analyze their marketing campaigns through its Shopping feature.

Another concern is falling profit margins, as gross, operating, and net margins are below where they were in much of the past decade. That's understandable, as Google expands into new directions (think Google Fiber and driverless cars), some of them more capital-intensive than its search and software offerings. Remember that companies can make up for low margins with great volume (think Wal-Mart, for example) and that lower margins for Google are still high margins. The company's recent net margin topped 20%.

You should never just blindly copy any other investor's moves, even if it's a successful hedge fund. Still, Appaloosa's purchase of Google might be your cue to look at it, and if you're not too risk-averse, you may like what you find.

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