Wednesday, September 20, 2006

Color on warning: Yahoo (NASDAQ:YHOO)

- Several firms are commenting on Yahoo (NASDAQ:YHOO) after the co warned yesterday that Q3 rev growth will be lower than expected:

* Goldman Sachs is lowering their estimates and 3-month price target to $32 from $40 given
Yahoo!'s 3Q2006 results will be below expectations due to slower ad spend in branded and search from economically sensitive categories - notably finance and autos. Firm's new 3Q2006 revenue and EBITDA estimates are $1,137 mn (+22% yoy) and $460 mn (+19% yoy; 40.5% margin) versus $1,170 mn (+ 26% yoy) and $475 mn (+23% yoy; 40.6% margin). They have taken a conservative stance by also reducing 4Q2006E and 2007E revenue and EBITDA by
approximately 5%-6%.

Firm notes they have aggressively cut estimates and long-term growth rate to ensure that there is still reasonable appreciation potential in the stock to justify Buy rating. After these reductions, they still see 25%-plus appreciation potential and believe new estimates are cut to the point that there is a significantly higher probability of upside to results over the next 12 to 24 months than downside. Firm has lowered growth rate to the point where it can be exceeded if either Panama or pay per call work. Thinks the stock has support at $25 but will trade in the mid-to-high twenties until: 1) estimates across the street are set lower; 2) there is clarity on growth trends; and 3) there are positive data points on Project Panama.

* Merrill Lynch notes Yahoo! pre-announced 3Q revenue at the lower half of previous guidance, indicating unexpected weakness in auto and financial services advertising (which contribute 22% of total Online advertising, per IAB). An economic slowdown is a risk to overall Internet advertising (both branded and search), but Yahoo! comments likely to be indicative of more company-specific issues such as slowing branded ad share growth, affiliate weakness and weaker traffic to vertical sites such as Yahoo! finance. In 2Q06 Yahoo missed revenue estimate on affiliate weakness, while Google beat slightly.

Slowdown in Internet commerce activity (fewer queries) and weakness in specific verticals (i.e. UK travel in 4Q) is a risk, however they believe Google's 3Q remains on track. ComScore query data and channel checks have been consistent with solid quarter, although meaningful upside potential seems less likely.

While they are maintaining Neutral rating on YHOO and continue to prefer Google, they believe 10x EBITDA will represent a reasonable support level for the stock. Adjusting for Yahoo!'s other assets, Yahoo! is trading at 11x 2007 EV/EBITDA, compared to Google at 18x, Amazon at 14x and eBay at 12x.

* Bear Stearns notes they are reducing their estimates toward the lower end of company guidance for Q3 and Q4 given the likelihood that this weakness may persist for the balance of the year. Channel checks suggest GM is spending less aggressively and not expected to pick up meaningfully in Q4. Guidance for Q4 seemed aggressive to begin with and now with lower Q3 expectations, they believe management may reduce Q4 expectations on the Q3 earnings call. Firm hase lowered 2006 and 2007 EPS estimates by $0.04 to $0.48 and $0.63, respectively.

They do not see any near-term positive catalysts for the remainder of 2006 given this slight pullback in spending and limits to search revenue growth from poor monetization. However, the firm feels 2007 provides potential good news for Yahoo, with significant revenue growth opportunities from Panama, some revenue from the joint venture with eBay, and projected robust industry-wide internet ad growth. CEO Terry Semel said Panama remains on track for full roll out by Q1. Channel checks suggest online ad growth remains healthy and is still likely to reach 25% in 2006 and 20% in 2007.

Firm recommends YHOO shares to the long-term risk tolerant investor as they believe yesterday's disappointment provided a good entry point to a rare double-digit growth story on the winning end of the secular trends impacting media. At 11x EBITDA, they believe the stock presents good value given growth prospects at the bottom end of guidance still suggest a healthy 24% increase in revenue in 2006. Tgt $37.

Notablecalls: Advertising expenditures are the canary in the coal mine as these are among the first to get the axe if things start slowing down. That's what happening here. I continue to maintain my bearish view toward 2007. What to do with YHOO stock? Think you can catch a quick bounce off the $25 level. Sure, YHOO is currently trading 11x EBITDA but this multiple will expand as the EBITDA part will continue to decrease.

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