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Yahoo's tough spot
Internet giant reports higher 2Q profits that meet estimates, but stock still tumbles after-hours.
July 7, 2004: 6:38 PM EDT
By Paul R. La Monica, CNN/Money senior writer

NEW YORK (CNN/Money) - Yahoo! reported big gains in second-quarter sales and profits Wednesday, thanks to strength in the hot Internet advertising market. But the results merely matched Wall Street forecasts, and its stock tumbled as a result.

The Sunnyvale, Calif.-based Internet media company said it earned $113 million, or 8 cents a share, in its second quarter, up from net income of $50.8 million, or 4 cents a share, a year earlier. Industry analysts were expecting Yahoo! to report earnings of 8 cents a share, according to Thomson First Call.

Sales came in at $609 million, a 90 percent increase from a year ago and a hair below Wall Street's consensus estimate of about $610 million. Yahoo!'s revenue figure excludes traffic acquisition costs, or TAC, which Yahoo!'s Overture Services subsidiary pays to partners. Overture supplies paid search listings to other Web sites and shares advertising revenue with them.

Shares of Yahoo! (YHOO: Research, Estimates) plunged nearly 11 percent in after-hours trading after falling 1.9 percent to $32.60 in regular trading on Nasdaq Wednesday. Smaller Internet rivals Ask Jeeves (ASKJ: Research, Estimates), InfoSpace (INSP: Research, Estimates), (FWHT: Research, Estimates), LookSmart (LOOK: Research, Estimates) and (MAMA: Research, Estimates) all fell sharply after-hours as well.

Yahoo! has tumbled in the past week due to worries about increasing competition from Microsoft in the lucrative Internet search advertising business. These concerns are compounded by the fact that Microsoft's MSN still relies on Yahoo!'s sponsored and algorithmic search results. So the fear is not only that Yahoo! could be gaining a formidable challenger but also losing a key customer as well.

But Yahoo! is still among the best performers in the S&P 500 this year, up 45 percent, and trades at nearly 100 times 2004 earnings estimates.

The company is clearly benefiting from a surge in online advertising, particularly in the sponsored search market, which allows advertisers to pay to have their ads tied to specific keyword searches. Yahoo!'s marketing services division reported a sales jump of 215 percent in the quarter, including TAC.

Its two other major businesses, fees and listings, also reported healthy year-over-year increases in revenue. Yahoo!'s fee businesses, which include things like premium e-mail, personal ads, and a co-branded DSL offering with Baby Bell SBC, posted sales of $103.9 million, up 49 percent from last year.

Yahoo!'s listing business, comprised mainly of its HotJobs employment site, reported sales of $37.8 million, up 17 percent over last year.

International revenues for Yahoo! surged as well, with sales from outside the U.S. increasing 170 percent, excluding TAC, to $135 million. International sales accounted for 22 percent of total revenues in the quarter, up from 16 percent a year ago.

"We have an extremely healthy and diversified business model," said Yahoo! chairman and CEO Terry Semel during a conference call with analysts. "Yahoo! is clearly on the move."

Priced for perfection

But because of Yahoo!'s rich valuation, investors were expecting Yahoo! to report results well ahead of estimates, as the company did in the first quarter. The company's failure to do so is one big reason the stock was down so much after-hours.

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"To be quite honest, the business is doing really well but the valuation is astronomical," said Kevin Calabrese, an analyst with Argus Research.

The company also failed to provide Wall Street with what it was truly craving: higher sales targets for the third quarter and full year.

Yahoo! said sales for the third quarter, excluding TAC, would be $610 million to $650 million and that revenues for all of 2004 would be about $2.45 billion to $2.54 billion.

Analysts had already been expecting sales of $645 million for the third quarter and $2.52 billion for the full year. The company did not give earnings-per-share targets. The consensus estimates are 8 cents a share for the third quarter and 33 cents for the entire year.

Yahoo! Incorporated
Technology earnings
Microsoft Corporation

David Garrity, an analyst with Caris & Co., said that the third quarter guidance looks relatively tame. If the company hits the high end of its sales range, it would post a 6.6 percent sequential gain in revenue. By way of comparison, sales in the second quarter were up 10.7 percent from the first quarter.

"This is a classic case of no good deed goes unpunished," said Garrity. "People are accustomed to seeing strong sequential growth rates and raised guidance for subsequent quarters. Investors were underwhelmed."

And Calabrese said that the lack of a big sales-guidance boost may cause more concerns about increasing competition, not just from Microsoft but also from search kingpin Google, which is getting set to go public later this year.

"It looks like growth might be slowing down and that adds to fears of competitive pressures," said Calabrese.

Google has been an especially tough competitor lately, going head-to-head with Yahoo! by launching local search-and-comparison shopping sites in recent months.

In addition, Google unveiled its Gmail service, which allows consumers a gigabyte of free e-mail storage. That move prompted Yahoo! to upgrade its free e-mail product. It is now offering 100 megabytes of storage for free after previously charging e-mail users $50 a year for that much storage.

Analysts quoted in this piece do not own shares of the companies mentioned and their firms have no banking ties to the companies.

CNN/Money has a business relationship with Overture Services, a subsidiary of Yahoo!  Top of page

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