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Google Wins Motorola Battle, but Shareholders May Lose the War


Google's (GOOG) success in snaring approval by regulators on its $12.5 billion purchase of Motorola Mobility (MMI) is an important battle victory in Silicon Valley, but industry analysts argue that it may point to a costly Cold War of attrition that will sap earnings power from the search-engine giant over the long term.

The unpredictability of Motorola Mobility's patents in future litigation, its projected dilution to Google's profit margins, and overall acquisition size are cause for concern that the deal may be a major misstep for first year CEO Larry Page.

"We think the biggest optical change for investors will be EBITDA margins, which would become significantly lower for the overall company," wrote Barclays Capital analyst Anthony DiClemente about Google's purchase of Motorola Mobility in a note following the European Commission's approval on Monday. DiClemente estimates that Google's earnings before interest, taxes, depreciation, and amortization will fall to 40.9% from 55.2% prior to the acquisition on the Motorola Mobility's higher expense businesses.

Outside of profit margins, there are other risks to the acquisition such as Motorola Mobility's declining market share of wireless devices and phones, which "should begin to rapidly decline over time," according to DiClemente. Motorola Mobility is expected to add $13.2 billion in 2012 revenue, but DiClemente questions whether any profits will ever emerge. Motorola Mobility has lost money in each of its last four calendar years. DiClemente gives Google an "overweight" rating with a $700 price target on an expected $43.77 in 2012 earnings per share.

For Google co-founder Larry Page, the acquisition represents his first spar with regulators and his biggest management test yet after taking the reins as Chief Executive from Eric Schmidt in April 2011. With Motorola Mobility, Google will manage an additional 19,000 employees with hardware experience outside of the software expertise that's made Google a Web titan.

"I think it will be a big test. Google has never done this before" says Martin Pyykkonen an analyst with Wedge Partners about the Motorola Mobility integration for Page, citing the size of the company's operations, its higher cost structure, and lower profitability.

Nevertheless, DiClemente and Pyykkonen see clear benefits, highlighted by Google's interest in protecting its Android operating system from patent litigation threats that could lead to user outflows.

Mountain View, Calif.- based Google, is defending its Android smartphone ecosystem that extends to handset makers like HTC, Samsung, and Motorola Mobility against claims by older tech giants like Apple (AAPL) and Microsoft (MSFT) that Android infringes on certain touch, antenna, and positioning functions. That Android ecosystem is a push by Google to keep its core search functions relevant, even if consumers ditch desktop computers and laptops for smartphones and tablets.

To keep its search business dominant in a mobile world, Google bought Android in 2005 and since developed it to be the world's leading smartphone operating system, with a near 60% market share. A tremendously popular O/S, the Android strategy to move search horizontally onto mobile devices isn't certain to pay off in an earnings boost.

An open source company in its DNA, Google is also committing to not developing a closed-end mobile device and operating system platform to match Apple $33 billion business.

Google missed fourth quarter earnings on falling costs per click on its search business and the lower rate paid to mobile clicks. The company's paid clicks rose 34% in the fourth quarter compared 2010, but the amount advertisers paid for each click fell by 8%, hitting revenue.

Google shares are off over 6% in 2012 after rising nearly 10% in 2011. Currently, shares sit at $605.83 in afternoon trading.

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