Google Reports 2Q06

MOUNTAIN VIEW, Calif. -- Google Inc. (NASDAQ: GOOG) today announced financial results for the quarter ended June 30, 2006.

"Google grew at an impressive pace during a seasonally slower quarter," said Eric Schmidt, CEO of Google. "We continue to deliver valuable new products and services to users around the world through our partnerships and investments in our business. Our strong performance results from our clear focus on increasing the quality of user experience, particularly in search and ads."

Q2 Financial Summary

Google reported revenues of $2.46 billion for the quarter ended June 30, 2006, an increase of 77% compared to the second quarter of 2005 and an increase of 9% compared to the first quarter of 2006. Google reports its revenues, consistent with GAAP, on a gross basis without deducting traffic acquisition costs, or TAC. In the second quarter of 2006, TAC totaled $785 million, or 32% of advertising revenues.

Google reports operating income, net income, and earnings per share (EPS) on a GAAP and non-GAAP basis. The non-GAAP measures are described below in the section titled "About non-GAAP financial measures" and are reconciled to the corresponding GAAP measure in the accompanying financial tables.

Q2 Financial Highlights

Revenues - Google reported revenues of $2.46 billion for the quarter ended June 30, 2006, representing a 77% increase over second quarter 2005 revenues of $1.38 billion and a 9% increase over first quarter 2006 revenues of $2.25 billion. Google reports its revenues, consistent with GAAP, on a gross basis without deducting traffic acquisition costs, or TAC.

Google Sites Revenues - Google-owned sites generated revenues of $1.43 billion, or 58% of total revenues. This represents a 94% increase over second quarter 2005 revenues of $737 million and a 10% increase over first quarter 2006 revenues of $1.30 billion.

Google Network Revenues - Google's partner sites generated revenues, through AdSense programs, of $997 million, or 41% of total revenues. This is a 58% increase over network revenues of $630 million generated in the second quarter of 2005 and a 7% increase over first quarter 2006 revenues of $928 million.

International Revenues - Revenues from outside of the United States contributed 42% of total revenues, compared to 42% in the first quarter of 2006 and 39% in the second quarter of 2005. Had foreign exchange rates remained constant from the first quarter through the second quarter of 2006, our revenues would have been $26 million lower. Had foreign exchange rates remained constant from the second quarter of 2005 through the second quarter of 2006, our revenues would have been $18 million higher.

TAC - Traffic Acquisition Costs, the portion of revenues shared with Google's partners, increased to $785 million in the second quarter. This compares to TAC of $723 million in the first quarter. TAC as a percentage of advertising revenues remained flat at 32% from the first quarter to the second quarter.

Other Cost of Revenues - Other cost of revenues, which is comprised primarily of data center operational expenses, as well as credit card processing charges, increased to $204 million, or 8% of revenues, in the second quarter, compared to $181 million, or 8% of revenues, in the first quarter. Other cost of revenues also included stock-based compensation of $2 million in the second quarter, compared to $2 million in the first quarter of 2006.

Operating Expenses - Operating expenses, other than cost of revenues, were $652 million in the second quarter. Operating expenses included $342 million in headcount-related and facilities expenses, $107 million in stock-based compensation, and $49 million in advertising and promotional expenses, of which $24 million was related to certain distribution deals. In addition, stock-based compensation is included in operating expenses, but excluded from non-GAAP calculations.

Stock-Based Compensation - In the second quarter, the total charge related to stock-based compensation was $109 million as compared to $115 million in the first quarter.

For the full year, we expect stock-based compensation charges for grants to employees prior to July 1, 2006 to be $375 million. This does not include expenses to be recognized over the remainder of the year related to employee stock awards that are granted after July 1, 2006 or non-employee stock awards that have been or may be granted. We currently anticipate that dilution related to all equity grants to employees will be approximately 1% to 1.5% per year.

Operating Income - GAAP operating income in the second quarter was $815 million, or 33% of revenues. This compares to GAAP operating income of $743 million, or 33% of revenues, in the first quarter. GAAP operating income includes stock-based compensation in the first and second quarters and plaintiffs' attorneys' fees related to a legal settlement of $30 million in the first quarter. Non-GAAP operating income in the second quarter was $925 million, or 38% of revenues. This compares to non-GAAP operating income of $887 million, or 39% of revenues, in the first quarter.

Net Income - GAAP net income for the second quarter was $721 million as compared to $592 million in the first quarter. Non-GAAP net income was $772 million, compared to $697 million in the first quarter. GAAP EPS for the second quarter was $2.33 on 310 million diluted shares outstanding, compared to $1.95 for the first quarter, on 304 million diluted shares outstanding. Non-GAAP EPS for the second quarter was $2.49, compared to $2.29 in the first quarter.

Income Taxes - Our effective tax rate was 26% for the second quarter and the six months ended June 30, 2006. We currently anticipate that our effective tax rate for the full year will be at or below 30%.

Cash Flow and Capital Expenditures - Net cash provided by operating activities for the second quarter totaled $841 million as compared to $825 million for the first quarter. In the second quarter of 2006, capital expenditures were $699 million, including $319 million related to real estate purchases in Mountain View, CA. Free cash flow, an alternative non-GAAP measure of liquidity, is defined as net cash provided by operating activities less capital expenditures. In the second quarter, free cash flow was $142 million.

We expect that the growth rate in capital expenditures in 2006 will be substantially greater than the revenue growth rate for the year. We expect the majority of investment to be focused on IT infrastructure including servers, networking equipment, and data centers, as well as real estate and campus facilities.

A reconciliation of free cash flow to net cash provided by operating activities, the GAAP measure of liquidity, is included at the end of this release.

Cash - As of June 30, 2006, cash, cash equivalents, and marketable securities were $9.82 billion. This balance reflects the net proceeds of $2.06 billion from the public offering that closed in early April as well as the impact of the cash investment of $1 billion in AOL in early April.

On a worldwide basis, Google employed 7,942 full-time employees as of June 30, 2006, up from 6,790 full time employees as of March 31, 2006.

Google (Nasdaq: GOOG)