Good day, everyone and welcome to the Google Inc. conference call. This call is being recorded. At this time, I would like to turn the call over to Maria Shim, Investor Relations Manager. Please go ahead.

Good afternoon. Welcome to our second quarter 2007 earnings call. On the call with us today are Eric Schmidt, Chief Executive Officer; George Reyes, Chief Financial Officer; Larry Page, Founder and President of Products; Sergey Brin, Founder and President of Technology; Jonathan Rosenberg, Senior Vice President of Product Management, and Omid Kordestani, Senior Vice President of Global Sales and Operations. Eric, George, Larry and Sergey will provide some thoughts on the quarter, and then we will have Jonathan and Omid join us for your questions. This call is being webcast from our investor relations website. Our press release, issued a few minutes ago, is now posted on our website, as well as presentation slides that will accompany today's prepared remarks. A replay of this call will be available within a few hours. Some of the comments we will make today are forward looking, including statements regarding our investments in our business; seasonality; our traffic acquisition costs (NYSE:TAC); increases in cost of sales; plans to continue to invest in personalization; international growth; growth in our headcount and expected level of capital expenditures. These statements involve a number of risks and uncertainties that could cause actual results to differ materially from those anticipated by these forward-looking statements. These forward-looking statements speak as of today, and you should not rely on them as representing our views in the future, and we undertake no obligation to update these statements after this call. Please refer to our SEC filings, including our quarterly report on Form 10-Q for the quarter ended March 31, 2007, as well as our earnings release posted a few minutes ago on our website, for a more detailed description of the risk factors that may affect our results. Copies of these documents may be obtained from the SEC or by visiting the investor relations section of our website. Also, please note that certain financial measures we use on this call such as EPS, net income, operating margin and operating income are expressed on a non-GAAP basis and have been adjusted to exclude charges related to stock-based compensation. We have also adjusted our net cash provided by operating activities to remove capital expenditures, which we refer to as free cash flow. We report our GAAP results, as well as provide reconciliations of these non-GAAP measures to GAAP financial measures, in our earnings release. With that, I would like to turn the call over to Eric.

Well thank you very much, and thank you all for joining us in your busy day. We have once again delivered strong revenue performance, particularly on core Google.com search and strong cash flow in our seasonally weak quarter. We're obviously very pleased with that. Traffic was stronger than we expected on Google.com both domestically and internationally, with annual traffic growth actually increasing over time, which is a very positive surprise. We are clearly doing the right things to attract and retain users. You can see this in the success of our many products. We're very focused now on people spending their time searching, using information online and doing it in a global way. The summer seasonality that we always talk about does appear to be milder than we expected, which is also good news. We are improving our ability to monetize searches, as we do every quarter, with another strong quarter of ads quality improvements. We are still continuing to see strength in revenue per query and click-through rate, and the pace of ads quality innovation is strong as we continue to scale up this effort and build up on our expertise. It is a big area of investment for us and an important one. So we have continued to make significant investments, as we have previously discussed. We are growing rapidly, building the best infrastructure, hiring the best to extend our footprint internationally, all the things that we talked about. Building better and better products and invest in doing so in the model that we've talked about: 70/20/10, 20% of the time, and that sort of thing. The data center is reducing latency, increasing search indices, et cetera. Network effects are driven by scale, and Google is the beneficiary of that. By focusing on the best talent -- and we have talked about this as well -- we have a growing percentage of international hires and international offices contributing to our global product set. We are building now localized products for each of these markets and we are seeing significant gains in terms of our role and our impact in each of these languages and cultures in ways that matter to end users. Of course, we are still applying the kind of discipline that we have always talked about with respect to making strategic long-term investments and short-term profits. So we are busy executing on our search, ads and apps strategy at scale all around the world. It is a focused strategy with these three pillars that will really grow the Google ecosystem. From a Google perspective, when we look at the quarter, one area we exceeded over our expense plan was headcount. We are very pleased with the talent that we've brought on board, but going forward we will watch this area very closely. So when I look at the quarter, we are very pleased with what we're delivering. The product model is working, our global growth strategy is working, our innovation model is working, and we continue to be an innovator at scale, and we certainly expect that to continue. I do want to mention -- as I have before -- that the second quarter which we just completed and the third quarter that we are in are seasonally weaker in traffic than the first and fourth and we would, of course, expect that to be true for many, many years to come. Let me turn it over to George for his comments and then I will join you at the end. Go ahead, George.

Thanks, Eric and good afternoon, everyone. I will go through a discussion of the quarter quickly so that we can allow more time for your questions. Gross revenue increased to $3.9 billion, representing 58% growth over last year. Despite expected seasonal weakness, we experienced particular strength in our Google.com properties, driven primarily by stronger than expected traffic growth globally, as well as continued improvements in ads quality. As Eric mentioned earlier, the pace of ads quality innovation was strong, with the aggregate of these improvements positively impacting Google.com revenue. Revenue from Google.com properties was $2.5 billion, representing a year-over-year growth of 74% and sequential growth of 9%. Now I will turn AdSense revenue, which grew 36% over last year and was approximately flat at $1.35 billion. Growth in AdSense was affected by several factors, including typical seasonality that we see in our network during Q2 and to a lesser extent changes to the AdSense implementation of certain AdSense research partners that were less favorable to revenue. We also implemented changes that improve the user experience on our network, as well as provide more value to advertisers. For instance, AdSense for Content revenue was affected by policy changes such as termination of publishers who were not meeting our quality thresholds, partially offset by strong revenue growth from other AdSense for Content partners. Let's now look at aggregate paid clicks growth. To remind you, aggregate paid clicks include clicks related to ads served on Google properties, as well as ads served on our partner sites. Aggregate paid clicks grew approximately 47% over Q2 of last year and were roughly flat with Q1 levels, reflecting the typical seasonal pattern we see in Q2. Let me now discuss our international performance. We continue to make significant international investments, and we're seeing the benefits of this strategy. International revenue increased to 48% of total revenue, or roughly $1.8 billion, driven primarily by strong growth in Europe, despite weaker seasonal traffic trends. Spain, Italy and France in particular outperformed in Q2, while Germany, along with the UK, were significant drivers of revenue growth. The UK came in with revenues of $600 million and 4% sequential growth. Our substantial investments in R&D, sales and marketing, as well as infrastructure, are benefiting our smaller markets as well, with healthy growth rates in markets like Brazil, China and Korea. Now turning to expenses, traffic acquisition costs were $1.15 billion and 30% of total advertising revenue, down from 31% in Q1. AdSense TAC was just over $1 billion, while TAC related to distribution partners and others who direct traffic to our websites totaled $87 million in the quarter. As we grow our AdSense partner network and embark upon new initiatives, we may see additional pressure on TAC rates going forward. Other costs of revenue increased $67 million over the prior quarter primarily as a result of increases in costs related to datacenters, included depreciation, equipment and operations. We anticipate that other costs of sales will continue to increase going forward. Looking at operating expenses, operating expenses in Q2 other than cost of revenue included $234 million in stock-based compensation and totaled $1.2 billion. The growth in OpEx was primarily driven by increases in expenses related to payroll and facilities, which was $625 million in the quarter. One of the larger drivers of payroll expense was the company bonus plan. This was due in part to a revision of our bonus accrual methodology that will allow us to more proportionately recognize the related expenses each quarter. This all led to a higher bonus accrual in Q2, which includes a catch-up from Q1, and affected all expense line items. A second factor driving expenses was headcount growth, which led to higher payroll expenses. We added 1,548 employees in Q2, the majority in sales and marketing and engineering. At the end of the quarter, we had a full-time employee base of 13,786. The percentage of our international hires, new hires, also continued to rise, demonstrating our commitment to further scale the business internationally. We have grown quickly to address strategic opportunities, and as we grow we're applying increased discipline when making investments and taking a careful look at how we allocate resources efficiently across the world. Turning to operating profit, non-GAAP operating profit which excludes stock-based compensation, was $1.3 billion, with non-GAAP operating margins of 35%, a decline from 38% in Q1. Now turning to cash flow, operating cash flow was strong at $1.2 billion and CapEx for the quarter declined to $575 million. The majority of our CapEx was again related to IT infrastructure investments, including production of servers, datacenter construction and networking equipment. We will continue to make these investments going forward as our infrastructure and resources make possible such innovations as universal search, and will further our leadership position in the industry. Free cash flow, a non-GAAP measure, which we define as cash flow from operations less CapEx, increased to $655 million. So in summary, we believe our results reflect the strength of our core search and ads business, while our significant but disciplined investment positions going forward will allow us to leverage everything that we have been doing at Google. Now I will turn it over to Sergey.

Thanks, George. I am really excited to tell you about what we have accomplished in the past quarter, especially with respect to search. And of course, search remains the heart of what we do. We had a big launch this past quarter in particular with universal search. This means now when you search on Google.com -- and soon it will be available on our international domains -- you are going to get results from both the web as well as image, video, news, maps and books all together. This may seem simple, but in fact it has taken a lot of infrastructure work just to be able to do all the computation across all those corpuses, as well as the algorithms that allow us to rank those disparate types of information together. Just a couple days ago, I was researching an old IBM mainframe system from the 1960s I had created on Google, and it never occurred to me to search for videos on that kind of query. But in fact, there were great videos and they popped up, and I watched both IBM's promotional videos from the '60s as well as a fantastic kind of looking back research history video about that particular computer. It turned out to be very useful to me. I expect that other users also find this useful, along with all the other corpuses I mentioned, not just video. It is just amazing where you don't think to search for something you are looking for where the information could just be fantastic. On the international front, we have been making great strides. We are actually now experimenting with trying new kinds of home pages, for example in Korea, Taiwan and Hong Kong, that are completely different types than we have tried before on our U.S. sites, as well as our European sites. We think it will be more appropriate for the local cultures and their contexts and their broadband connections, which for example in Korea are extraordinarily fast. The initial results, by the way, have been coming back quite positive, so we are optimistic about that. A big launch that maybe we don't appreciate so much in the U.S. is the cross-language information retrieval. What that means is that if you run your query in one language -- and by the way, don't forget many users out there, if they don't speak English, they can only get in their language about a tenth of the information that is available on the web as in English, so it is a much smaller set. But now, when they do their query, we will actually run that query in other languages, including English, and get back the results and translate them back. This is just really phenomenal. This is really opening the true power of the web to people who don't speak necessarily English. By the way, it works in English, too so occasionally, when you get stuff and it is only in French or Italian or whatnot, you'll get it back. I am very excited about this particular one. Now in addition to search, of course, we have been working on our iGoogle page, the personalized home page, as we used to call it. It is launched in 18 new domains. It is one of our fastest-growing products. We have been effecting fantastic gadgets for them, the little modules that you plug in. I have about 20 on my home page. It is really a good way to be able to see a bunch of information at once, not to have to navigate to disparate sites. We launched GadgetMaker, which lets people who aren't JavaScript and Ajax wizards in their own right to actually create gadgets that are going to be useful for things like sharing photos, planning events and whatnot. This is just one aspect in the way that we are personalizing the web. I think we are going to continue to invest lots of resources in this area. Now, jumping ahead, while there are so many things I would like to tell you about some of our web efforts, I only have limited time here. On ads, we have been doing a lot of work on ads, as always. Our goal is to connect advertisers with people who really care about their advertisements, who are really interested in their products. So the most important thing is the quality of our ad system. Q2 was a really strong quarter. We had lots of launches of different ad quality improvements, improvements in the algorithms. We had good results with our advertisers and with the publishers as well. We also enhanced the feedback system that allows users to give us feedback on the ads. It also better connects users with the advertisers that they would be best served by. Now, advertisers obviously want to get traffic to their websites, but ultimately they are interested in getting sales or leads or whatnot. So we want to make the whole process for the advertisers' marketing spend as effective as possible. Starting first off with the launch of the redesigned Google Analytics, it's got new visualization tools and custom dashboards. It really lets marketers and advertisers and people who just really care about their websites get great information and understand about how people are actually using those websites. That allows them to in turn optimize their websites. We added ten new languages, that is up to 17 languages supported now. We actually have had as a result, great growth in both new customers for Analytics, as well as people linking their AdWords account to their Google Analytics account, which is the most powerful combination. We've also added very important placement performance as well as search query information. So now, advertisers know where in our network precisely their ads are running. This obviously gives them better control over the ads too, and also which search queries are generating the best results. It is very useful information. We have obviously had a lot of demand for that and we finally have it out. Now lastly, I just wanted to mention our continuing work, we mentioned this before, but the pay-per-action advertising. Ultimately, as I said, the advertisers want not clicks, but they want something to happen like a purchase and whatnot. The pay-per-action advertising is now available to all advertisers and on all publisher sites. We have been having lots of advertisers move to this model. It is such a no-brainer. Then you don't have to figure out for yourself; well, I don't know how much a click is worth to me and whatnot. It really ties it directly to the action. Anyhow, all told, I am very excited about the progress we have been making on both search and ads, and for apps, I would love to turn it over to Larry.

Well, thank you, Sergey. We continue to really invest in building simple web-based applications to help all of our users organize their information and create new content. As Sergey already mentioned with that mainframe example about video, we have been really excited about video. The best example of this is really YouTube. We made very strong progress this quarter, YouTube did, in many different areas. We added local support in nine new countries, and also, local users can now enjoy locally generated content, new features there, and new features on featured videos, directors and promotions. We have gotten great response to all of those things, which has resulted in increased usage. We also added many new partners on YouTube, several of them in newly added markets like Hearst Argyle Television, National Geographic and Global de Brazil. We also broadened our distribution through other partnerships, for example, Motorola, Telecom Italia and Apple on the iPhone and Apple TV. The iPhone, of course, has an amazing user experience in looking at YouTube. You can waste very many hours, and also enjoy useful content like mainframe videos on your iPhone. So Google Apps also had a very successful quarter overall. We were named number one product of the year by PC World magazine, which we were very excited about. We launched our apps premiere partner edition for ISPs to offer co-branded apps to their subscribers. And we signed a new deal with several new partners, including Virgin Media, a UK ISP. We also launched a tool in apps to enable easy migration of large numbers of email accounts to Gmail. This does things like preserves the header information, threads all the conversations, makes your email searchable. For example, just one customer migrated 30,000 users with 3 million emails in just 24 hours. So we have a lot of excitement around that. We also announced our intent to acquire Postini for $625 million. What that lets large enterprises do is really give them with some of the complex issues that they have like their business rules, their security mandates and legal compliance, and really let them do that easily over an email solution. So we are really excited about that, and it lets us add web-hosted security and corporate compliance for email, IM and other communications. Postini was actually one of our first partners in Google Apps. Again, we are really excited about this and I think that many of our customers are as well. Let me switch gears for a second and talk a little bit about developers. Really to support our efforts across all of the areas of the company -- search, advertising and applications -- we're really supporting a growing community of developers. As part of that effort, we had our first worldwide Developer Day to reach out to that community. We had over 5,000 developers participate in over ten countries and online, and we got a great response from them. We also at that time delivered several new tools and APIs for the developers to work with. One was called Google Gears, which is an open source project that enables web-based applications to run offline. We also launched Maplets, which lets people extend Google Maps, and there's examples like real estate search and embedded photographs that developers are implementing now. So all of these developers are really helping us to create new and interesting information and applications and content which helps us build our whole ecosystem and makes the user experience better for everybody. I was really excited by our progress in this quarter, and now I will turn it over to Eric.

Thank you. As I reflect on the quarter, I am really struck by our ability to operate and move forward at this scale. Normally, innovation at our size and growth begins to slow but here, it seems to be accelerating. We are producing more products with many more users, more languages, in more countries in the ways that we have talked about. I think it is because our model is working so well that we are so optimistic about the future. When we talk about products, and Sergey talked, for example, about iGoogle, you can see something which goes from almost no users when it is introduced to many, many, many millions of users very, very quickly. So we know this model will continue to scale, and we know that we are focused on our primary mission, which is around search, ads and apps. That focus is going to continue, with many good things to come in the future. So with that, maybe we should get some questions and comments. Maria?

Operator, could we start taking questions, please?

(Operator Instructions) Your first question comes from Anthony Noto - Goldman Sachs.

Eric, one question for you. I think you have said previously that it was your goal to grow operating income each quarter on a sequential basis. This quarter, obviously, it was down. I was wondering if that was completely due to the bonus accrual that you had mentioned, given the number of employees you hired was lower than we thought, D&A was lower than we thought and revenue was higher, because I am trying to get to that underlying difference. If you could explain in a little bit more detail how much that incremental bonus accrual was. Thanks.

In general, we don't break out all the puts and takes on the changes in the accrual. What I would tell you is that we overspent against our own plan in the area of headcount, and some of it was related to this bonus accrual that I talked about; and some, because we hired a little faster than we had planned. In looking at it we thought, was this a mistake or not? We decided it was not a mistake, that in fact the kind of people we brought in are so good that we're happy we did this. As I said earlier, we will continue to watch this very carefully in the future.

Thank you.

Your next question comes from Imran Khan – JP Morgan.

Hi, thank you for taking my question. One clarification question and then a follow-up. For clarification, when you said that you will closely look at headcount, should we assume that headcount growth will slow down? Secondly, Eric, you talked about how your traffic growth rate is actually accelerating. If we look at the paid click volume it is flat sequentially, considering traffic growth rate is accelerating and you're getting into new countries. Why is paid click volume flat sequentially? Thank you.

With respect to the headcount, as I said, we ended up somewhat higher on our headcount expenses than we planned, which is the issue that Anthony asked about as well. We will watch it, we will adjust, we will be opportunistic but we are going to be careful about that. Jonathan, do you want to talk about paid clicks?

Typically, this is a slow quarter for paid click growth. It is basically the lowest in the year from a seasonality perspective. If you look at it on a year-over-year growth rate, paid clicks is very healthy and consistent with the trends that we have been seeing. Really, I would characterize the quarter as one of very strong traffic growth domestically and internationally in what typically we see as a somewhat weaker quarter from a traffic perspective.

Actually, if I can add one more thing on the paid clicks. As we develop improved algorithms for showing our ads and as a result we're able to achieve better click-throughs, better monetization and whatnot, we usually like to split the benefit of that between both able to generate more revenue for other publishers than ourselves; but also, we like to improve the user experience, which in some cases means we try to show fewer ads in certain locations where we think they are less likely to get clicked on. That has a significant effect.

Thank you. That's very helpful.

Your next question comes from Mark Mahaney - Citigroup.

I wanted to follow up with Sergey on that last point. If you are making the ads more targeted and qualified -- which is what we think is happening -- at the end, advertisers should see more qualified leads and be willing to pay for that. We have seen an acceleration in your CPC growth the last two quarters and I know there's a lot of things that feed into that. But do you think that that actually is what's happening, or do you think that that kind of growth driver; that is, that CPC inflection point, growing because of increased advertiser interest and being willing to pay for more qualified leads? Do you think that is still to come?

I think it is a combination of factors. On the CPC, for example, the international mix changes, the nature of queries from season to season changes, and whatnot. On the whole, as you said, I do think that advertisers are seeing really good returns, and therefore they do bid higher. The other effect, as I mentioned, is that we tend to, when we have the opportunity, we feel like maybe we would be better off displacing some of the ads to show more search results higher on the page or taking more of the page especially as we improve the ad systems; therefore, we're still making equal or greater revenue. We do take that opportunity to increase the barriers to getting some ads up there. So that also has significant effects.

In general, we have talked about this in the past, but we definitely believe there is plenty of room to grow pricing. We know that advertisers watch their ROI very carefully and they monitor their budgets accordingly. Sergey alluded to the general dynamic of improving the quality of ads and what you can expect the dynamic there is with respect to click-through rates rising while the number of ads declines. Basically what we are seeing is when you try to parse out the average CPC, the growth rates in emerging markets versus developed markets impacts this a lot, because the new markets have lower prices and the faster growth in new markets tends to put downward pressure on CPC. The other big thing that you saw this quarter was, as Eric mentioned, traffic growth on Google.com. When Google.com grows faster, that positively impacts CPC significantly. We did, as Eric mentioned, see very strong traffic growth there. So a lot of it is the distribution piece.

Your next question comes from Mary Meeker - Morgan Stanley.

Thanks. I just want a couple clarifications. Eric, you've talked about the heads and basically the headcount and the operating expense changes and said you are going to watch it and you feel great about the people you've hired. But if could indicate if a portion of those were sales heads and a portion were international heads. I guess our translation would be that you feel comfortable that there will be related revenue commensurate to the hires in the next two to three quarters. If we could drill down on the bonus accrual a little bit, should we expect to see it play out on a more normalized basis on a go-forward basis? Is it fair to say that half of the difference between what you might have been expecting in OpEx and half of what you got for the quarter was related to the accrual? A third question if we may, just for a little clarification, any thoughts on how we should think about cost of goods sold as a percent of revenue on a go-forward basis? If you could answer any of those three, we will be happy because we know we went over our quota. Thank you.

Thank you, Mary. I will let George answer the second two. With respect to productivity of our headcount, our headcount, especially in sales, is productive very, very quickly. Omid talks and says that it's maybe even with the same quarter which they are hired is a model that is scaleable.

Again, the sales force name at Google means different things. It is the field forces which are calling on new Fortune companies, for example, as well as operational people that manage our online advertisers and the optimizations that go into the improvements. All of our analysis actually shows excellent productivity across the board. Some of the emerging markets obviously have different rates of productivity, and it is an investment we're making for the future there. But all in all, we've actually been going through a very thorough process of figuring out how best to take the sales force and reorganize them to represent all the various products we have today, from the core search products to the brand name products and monitor our productivity really carefully as we add resources both domestically and internationally.

Mary, going forward it should be a more normalized bonus accrual process. This was just sort of a one-time inflection that we tried to do to true-up the bonus.

Your next question comes from Ben Schachter - UBS.

There's a lot of litigation and regulatory issues around both the company and the industry, some established and some potential. What are the top two or three that you think potentially pose both the greatest risks for the company and the greatest opportunity? Separately, at a very high level the success of text-based search ads have really shown how valuable advertisers find highly-targeted ads. What do you think are the key barriers and opportunities to better targeting on the display and video side, both online and off? Thanks.

Ben, on your first question about litigation, we have already disclosed two major areas of litigation for Google; the first being in the book area, the book scanning and Library Project, and the second involving Viacom. Both of those are very important from the standpoint of principle. It would be great if those would go away or somehow would be resolved by technology or so forth. But we take those very seriously because we were sued by people who were unhappy with what we believed we were doing was right. With respect to broader litigation issues, Google is in the information business. There's always a potential that governments will decide that some of the things that we're doing are appropriate or inappropriate in ways that make our business harder. However, there are no short-term threats in that regard, and in fact in many cases the opening up of markets, the opening up of the Internet -- especially in countries outside the United States -- is really putting pressure on governments to have a broader information access approach, make information more broadly available, open up their Internet borders in a good way. So we are very optimistic about that sort of thing. On your second question, we will have Omid answer that.

There's two fronts really, two thrusts of work going on in the core business and there is continual work on ads improvement. There are all kinds of algorithms that continue to improve the targetability of the ads and the efficiency and accountability for advertisers and marketers. The interplay that was interesting between display and brand advertising and our core business, where we're seeing great success. This last quarter, we saw Pepsi in the U.S.; we saw Coke in France and Heinz in the U.S. really try to take advantage of both sides of the equation here. So advertisers are looking for ways to interact with our users online and have a two-way conversation about their brands really are starting to use YouTube very effectively and advertise on the content network, which allows them this targeted reach. It's also possible to have this two-way conversation, really an engagement with the users that the advertisers are really interested in. So we see great submissions of video or contests that then create that brand affinity, as well as then the ability to reach the audience and targetability that search provides. So we are really experimenting with all of that, and the core innovation is driving the core targetability and we're trying to learn a lot on how to best leverage the network as well as the properties like YouTube to have a comprehensive solution for the advertisers.

Your next question comes from Robert Peck - Bear Stearns.

I was wondering if you could give us a little more color or clarity on the current impact of your other endeavors, monetization on YouTube, the radio side, TV and print. When do you think it may start to become more material? You've recently rolled out site authentication as well as the unavailable after tag. I guess our thoughts there are, when should we see any sort of impact on either search volumes or click-through rates or CPCs going forward? Thanks.

On all the new initiative from TV to print, again we have moved from the beta phase where we tested a few advertisers and a few publishers and really expand beyond that. We're seeing really excellent adoption. What we're seeing is the advertisers are really pleased, and the partners are really pleased with the type of monetization they are experiencing. Again, it is going to be too early for us to really see a material impact, given the scale of the other sides of the business. The mantra I'm following right now is that we really need to first prove this model for both the advertisers and the publishers before we really scale it and scale it both in specific geographies as well as internationally. I think hopefully in the next few quarters we can shed more light on this. But at this point, we are seeing, as I said, great success with the early results and we hope to be able to scaled these models.

Your next question comes from Justin Post - Merrill Lynch.

Thanks for taking the question. When I look at the advertising revenues up 73% on Google websites, was there anything non-search-related really driving that number? Long term, could you discuss your outlook for display or video advertising for Google? Do you think it can be a meaningful percentage of your total revenues?

It certainly will eventually be a significant and meaningful percentage. Jonathan or Omid, do you want to talk a little bit about that?

I think I just spoke to that earlier, is that on all these fronts we're seeing great success both in the advertiser front and the publisher front in the context of the beta test that we're doing. We have reorganized the sales force, for example, in the U.S., which is the most advanced, most mature market for us so that they can represent all the products. So every sales force and sales group now within the U.S. structure is going through a lot of training and has just been reorganized so that they don't just represent search, but they represent all the products. They have supporting expertise for the specific areas from YouTube to television to print advertising. What you will see from us is, again, a lot of effort to take this beyond the beta phase and engage more advertisers, more publishers. Once we prove that model, extend that internationally as quickly as possible. Again, I'm putting a lot of emphasis on this, there is great hiring behind it and great innovation so that we can have it be a significant portion of our revenues. We just have to see it develop.

Was there an impact in the quarter at all?

Not this quarter.

Just in terms of the basic underlying numbers, the story really is, as we talked about, is clearly a combination of strong traffic growth and ads quality. Eric mentioned the traffic growth increasing over time and the increase in the rate there, which is very substantial. Larry and Sergey also talked about the big investment that we have been making in the user experience and search quality and the universal search launch. What I think we are really seeing there is that users are engaging in more searches by virtue of our improving the search experience.

Thank you.

Your next question comes from Brian Pitz - Banc of America Securities.

Thank you. A two-part question on eBay. Any color on the impact you've seen in the quarter on volume and cost per click from the pullback in advertising on your site? Any commentary on the acceleration of revenue that eBay noted yesterday on its call that is associated with your international partnership? Thank you.

eBay has been a long-term partner for Google. While it is true that they adjusted their mix in our advertising model, they continue to be a very significant advertiser. We did not see an impact on Google for many of the changes that they talked about that they made. Part of that is because Google is capable of choosing very much the best ad. When ads priority shift and people move advertising around, we can still take advantage of the highest-quality ad as produced in the auction. So far, the answer is no, no impact whatsoever. Our international business is very, very strong as you heard, and as a percentage of gross revenue it is growing especially strong in Europe; again, also noted in the eBay report. But that is not primarily because of our eBay-Google partnership, it is just because our international business is just strong overall.

Thank you.

Your next question comes from Christa Quarles - Thomas Weisel Partners.

First if you could highlight what the theoretical limit for TAC rates would be, you are close to 85%. Second, a broader question. I'm just very curious about what you're doing with regard to the spectrum. I was wondering if you could articulate what your telecom strategy is or what you are willing to articulate to this point, especially in light of some of the Google phone rumors out there. Thanks.

Let me do the second part, and I'll have George talk a little about TAC rates. First, we don't comment on rumors, and there's lots and lots of rumors which is always very exciting. We have looked pretty carefully at wireless, and we are thinking about what we want to do there. From a Google perspective, the most important thing is that there be an open network. We define that in the sense that people can go to a store or however they are going to get it and get a device, plug that device into a wireless network and be able to use the full capability of the Internet. In the course of using that full capability of the Internet, which is going to be delivered on these mini-devices that have come out in this space globally, they're also going to become very significant Google advertising users. So there's really a direct connection between the open interoperable network that we are now arguing for in SEC filings and so forth and the ultimate usage of Google services and applications, and of course, advertiser satisfaction.

On the TAC rate, on an absolute basis TAC increased. It was basically just a fundamental of more AdSense partnerships. Going forward, the future trend will depend basically on the relative growth of large AdSense partnerships and Google.com.

Is there a theoretical, I mean will you strike a deal? I mean, obviously you do minimum guarantees, but will you regularly start striking deals at 95%?

We prefer to do profitable deals. We are happy to give the majority of the revenue to the partners, which is what this is doing. There is no particular rule that we follow. We have as a business taken the position that we do want to have growing operating income to the bottom line. Basically growing operating income on a quarter-over-quarter basis. Although we did not achieve that this past quarter, it is certainly our goal. So all of the business decisions that we do are in the context of growing operating income on a quarter-over-quarter basis on an absolute basis, as well as building a strong cash flow-based business.

Thanks.

Your next question comes from Douglas Anmuth - Lehman Brothers.

Can you provide an update on your efforts around digital fingerprinting and content identification? Just one last question to try to wrap up the bonus accrual thing. Can you just clarify how you were accounting for your bonus accruals in 2006 and how that is changing, if it is, in 2007 in terms of the calendar basis? Thank you.

This is really a question about Claim Your Content. Larry and Sergey?

I should probably have Chad do an update of that. But as far as I know, we have experiments that are running and actually working quite well. So we are optimistic to be able to deploy that live in the near future. I haven't heard of any significant impediments. Obviously, this will present a new capability to content owners which they haven't had in the past with any other sites or mediums to be able to just detect in such a scaleable way easily, just in an automated way. So we are very excited about it.

A portion of the increase in the OpEx is a function of the change in the bonus accrual. That methodology includes a piece that relates to the catch-up of related Q1 charges. So that would be one angle on it. We also expect our bonus expenses to be more normalized or proportional going forward and less of a ramp-up throughout the year.

So is it reasonable to think that, for example, in the fourth quarter this year that you will have less bonus accrual on a relative basis will be in the fourth quarter this year than it was last year?

It will be normalized throughout the year going forward.

Your next question comes from Heath Terry - Credit Suisse.

Thank you. I'm just wondering if you could just give us an update on Google Local, what you see as being the barriers in terms of really filling out the business directory there, as well as starting to bring monetization of the impressive level of traffic that you have gotten for that site up to where monetization in your core search product is?

I think we have been really excited about our efforts on local and business listings and apps, which are all interrelated. From a user experience, I think there's still a long ways to go to make those things work even better. We have done experiments with things like having businesses listed on maps so you can see where they are and things like that. I see all those things as interrelated. Also improved targetability of advertising for local advertisers or locally targeted businesses. I think we are in the quite early stages of those products. The user experiences are improving rapidly, and I think they will continue to. Also, the advertising capabilities of advertisers to target particular local needs is also improving really rapidly. I think we are really excited about that. It is sort of like the other areas people have been asking about, I think there is a lot of initial progress which we are very excited about, and we expect to have a lot more going forward.

On some specific efforts this quarter, I think one of the things we did particularly with respect to Local Business Center was focus on making it easier and faster for businesses to submit their information. We launched a business ownership verification via phone and SMS in a bunch of international locales. I think we're up to about eight countries which replaces some of the more cumbersome processes that we had for verification efforts which previously could take days or longer. We have got that down to a few minutes. Some of the other thing that we did were better capabilities just in terms of bulk uploading of lists of business locations that cater to large chains of businesses. We've got a much, much more robust UI for doing that. So as we build out all of that underlying functionality, we are going to be able to do a whole lot more here with Local.

Your next question comes from Youssef Squali - Jefferies.

Thank you very much. George, I want to go back to the comments you made about a more normalized bonus accrual level starting in Q3. Any reason to believe then that margins could decline further from their Q2 levels? Doesn't sound like it, but I was wondering if you can comment. Larry, on your foray into the enterprise market, you started with search appliances in '02. Now you are going after hosted applications. Can you speak to the logic of going after that market, which looks very different to us from your core search market? Looking at the margin characteristics of other companies, it looks like it may be very dilutive to your overall margins.

Larry, do you want to do the second part?

I think one thing to keep in mind, we have Gmail, for example, has been a very successful product. We're really excited about it. There's many people within companies who need different kinds of functionality in order to use Gmail, and they are among the heaviest users. We don't really think about it in that way, I guess. I think that we have a tremendous amount of usage with Gmail and other hosted apps within Enterprises, and we are going to do just fine making money. I think the other kind of businesses you've seen there have a very different structure than what we have. I am not concerned about that applying to us, those businesses necessarily being very low margin.

On your other question we're just not going to comment on forward-looking margins. We just don't do that.

Your final question comes from Gene Munster - Piper Jaffray.

Good afternoon. It looks like you guys have been a little bit more aggressive in China, specifically inking a deal with Sina. It sounds like you've strengthened your brand there. Any thoughts on how your efforts in China are going specifically?

When we entered China, we entered under a set of restrictions that have been well publicized. We decided to invest heavily in China. We now have quite a talented engineering team, strong marketing, strong sales; very, very good connectivity and very low latency. The combination of that and a set of very good Chinese language products for search, advertising and some new ones they just launched seem to be accelerating our market share. Although it does not appear that we are number one in the market, it looks like we are now in a situation where we are quite competitive. In many areas, users tell us that our products are better. So it is a very good start. Although we don't think that this will result in an immediate, huge success, we think that the tenacity of Google, the many strengths that Google brings to the party will bring significant victories in China over the next few years. With that, what I would like to do is let's finish up. Thank you all again for spending so much time with us. When I think about what we have done and the set of networks that we have created: the network of users, the network of advertisers, the network of publishers. Google is doing a particularly good job of using these networks and tying them together in clever and new and innovative ways to provide real value to users, of course, especially in advertising, but also real value in terms of economics. It is the sum of that that I think is perhaps the least understood part of Google. It is the fact that we can link publishers and advertisers and users in new solutions that really do solve their problems. They solve their problems in ways that they have never been solved before, and we do it on a global scale. So with that, thank you very, very much.