Should You Bet on This Turnaround Story?
Bill is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
The new CEO of Yahoo! (NASDAQ: YHOO), Marissa Mayer, has dramatically changed in the firm’s executive team. As a new CEO, Mayer has the tough job of turning around Yahoo’s lackluster public interest. Though she has successfully started this process by making extreme changes at the top, it remains to be seen if she will be successful at improving the operations of the firm.
As investors we should consider Yahoo! in the context of its large competitors. Facebook (NASDAQ: FB), AOL (NYSE: AOL), and Google (NASDAQ: GOOG) should all be considered as alternatives. Which, if any represent compelling investments?
Investors Optimistic for Mayer
Yahoo shares reached almost $19 on Nov. 30, the highest level reached since May 2011. This new high is buoyed by fresh investor confidence in its new Chief Executive Officer Marissa Mayer. However, the company has yet to produce evidence that its business has turned around.
At least two hedge funds, Tiger Global and Greenlight Capital, had been accumulating Yahoo! shares in the third quarter. With around 700 million monthly visitors, Yahoo! is the third most popular internet site; and investors believe that Mayer should be able to squeeze value out of this traffic and the company’s assets.
Mayer’s recruitment of Google’s employees helped improve Yahoo’s image. Gravity Capital’s founder Adam Seessel said, "What the market is seeing is not numbers so much as they're seeing people voting with their feet, people moving from Google to Yahoo. All these people from Google wouldn't be following her if they didn't think that she didn't have some good cards to play."
Mayer has also been able to attract key hires from outside of Google. This October, Mayer made the decision to have Ken Goldman installed as Yahoo’s Chief Financial Officer. He comes to Yahoo with three decades of experience with technology oriented companies. Mayer also hired Kathy Savitt as chief marketing officer from American Eagle Outfitters (AEO).
Although a recent report of discussions on a search deal between Yahoo! and Facebook had been denied by the latter, still investors see search as one key opportunity where Mayer could focus to revive earnings. The new CEO is most keenly interested on the growing number of smartphone users and hence plans to make Yahoo’s online products more smartphone friendly go to the top of her priorities.
Positive Results from AOL
AOL is a Yahoo! competitor from the era of dial-up modems. AOL's shares rose after the company declared better than expected third quarter profit due to strong advertising sales. The value of the stock has all but tripled this year. Net income has risen to $20.8 million. Total revenue for the first quarter has remained constant at $531.7 million, which is a sharp contrast to last year’s deficit of $2.6 million. Profit amounted to 34 cents, excluding items higher than the expected 29 cents.
AOL has struggled ever since parting ways with Time Warner in 2009. Since the split, CEO Tim Armstrong has sought to turn the company into an ad based content provider while still providing Internet services. AOL has only just started to see a payoff from this initiative. Search advertising amounted to $91.8 million this quarter, gaining 7.9%. The advertising network increased by 18% to $112.8 million. Display advertising, however, dropped 1% to $135.4 million. International display advertising returns increased by 18%, compensating for the 2.6% drop in display advertising at home.
There is a wide range of valuations for web search and directory companies:
AOL is clearly the cheapest, both by price-to-earnings, price-to-free cash flow, and price-to-sales multiples. Since it is turning around its business, investors should consider it as a potential buy candidate.
Yahoo is a distant second. Yes, it has a low trailing P/E ratio, but this was based on one-time restructuring. Its future price-to-earnings ratio is projected to be 16.3. This is not really compelling for a stock when the trailing S&P 500 average price-to-earnings is about 14. Though Marissa Mayer could succeed in unlocking value in the firm, investors shouldn’t pay premiums for turn-around stories. Instead, they should wait for a dip in the price of Yahoo before considering it as a buy candidate.
Google's stock valuations are also not compelling. Shares of Google currently trade at a high 21.88 price-to-earnings ratio and a high 4.83 price-to-sales multiple.
Facebook’s valuations are off the charts. Equity in this this company is rich on a price-to-sales basis since shares trade at a 13.09 multiple, substantially higher than the 1.3 the S&P 500 average. FB shares are trading at an indefensibly high 254.6 price-to-earnings ratio. Investors should stay away from this overpriced stock.
There is no reason to bet against Marissa Mayer, but at present prices, there is no reason to take a chance on her turnaround either. Investors who are looking for compelling price multiples among Yahoo’s peers should consider buying AOL while avoiding Facebook and Google.
BillEdson11 has no positions in the stocks mentioned above. The Motley Fool owns shares of Facebook and Google and has the following options: long JAN 2014 $20.00 calls on Facebook. Motley Fool newsletter services recommend Facebook and Google. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!