"We believe that our revenue growth rate from the second quarter to the third quarter of 2004 may not be sustainable into the fourth quarter of this year and in future periods," Google stated in its SEC filing. Compounding a possible decline in growth rates, Google expects "downward pressure" on the company's overall operating margins.
The company indicated that it fears a sizable drop-off in advertising sales, due to a decrease in traffic prompted by "formidable competition in every aspect of our business" from Microsoft and Yahoo!
"If Microsoft or Yahoo! are successful in providing similar or better Web search results compared to ours," Google said in its filing, "we could experience a significant decline in user traffic," adding that "any such decline in traffic could negatively affect our revenues."
Melissa Burgess of the search marketing firm Impaqt said Google had every reason to be worried about competition from MSN. "When you go against Microsoft, they will beat you with marketing," she said. Burgess predicts "significant" traffic decreases for Google and Yahoo! once MSN's search engine is taken out of beta and marketed to consumers.
Google echoed these concerns in its filing: "We expect that Microsoft will increasingly use its financial and engineering resources to compete with us."
Still, some analysts warned against reading too much into Google's filing. "Lowering expectations is never good," said Gary Stein, principal analyst at JupiterResearch. "It's probably rational, though--I mean, they can't continue with this insane growth."
Despite an aggressive entry into the space by Microsoft, Burgess said, "you won't see advertisers jumping off the Google bandwagon"--at least not in the short term, precisely because Google still has by far the greatest share of search traffic.
According to Nielsen//NetRatings, Google has a 44 percent share of the search market, followed by Yahoo! with 18 percent, MSN with 11, America Online, which uses Google AdSense, with 7 percent, and AskJeeves with 4 percent.
Increased operating costs coupled with an increase in Google Network partners could adversely affect company revenue. On a per partner basis, Google does not generate much revenue from AdSense. "The margin on revenue we generate from our Google Network members is generally significantly less than the margin on revenue we generate from advertising on our Web sites," the company said.