This Isn't a Fair Fight
Chad is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
When a company like Yahoo! (NASDAQ: YHOO) reports earnings, there is a lot of anticipation from investors to see what direction the company is heading. Unfortunately at this point, it appears that Yahoo! is headed in the opposite direction of its competition. With companies such as Google (NASDAQ: GOOG) and Facebook (NASDAQ: FB) on its heels, this isn't a fair fight.
Overall revenue declined 1% year-over-year, and though non-GAAP earnings-per-share increased 47%, the company's results were disappointing in multiple ways. For instance, display revenue was down 2.14%, and search revenue decreased 1.24%. By point of comparison, Google's ad revenue increased by over 23% in their most recent quarter. The fact that Google's paid clicks increased by 39% in the most recent quarter is especially worrisome, when you look at Yahoo!'s anemic search revenue growth. Something that investors should take particular note of, is the fact that revenue, excluding traffic acquisition costs, was down in both the Americas and Asia. In fact, if not for a 26.93% gain in European revenue, overall revenue would have decreased by another $40 million. As if this were not enough, Yahoo!'s traffic acquisition costs rose by 11.58%. Considering that search revenue and display revenue declined, paying more for less traffic is not a good business model. Looking at the company's financials, paints an equally challenging picture.
The company did grow operating cash flow by over 20%. However, about 10% of this increase was due to a gain on the sale of investments this year, versus a loss on the sale of similar investments last year. This is part of the reason that the huge increase in capital expenditures was so surprising. For a company that grew organic operating cash flow by just 10%, one would not expect a better than 60% increase in capital spending. These were both contributing factors, to Yahoo!'s free cash flow decline of 2%. An equally troubling note is, share repurchases we're not enough to offset a more than 7% increase in total shares year over year. With Yahoo! facing such stiff competition, the company will need new developments to pay off as quickly as possible.
The company announced that Yahoo!'s stake in Alibaba would be fully realized if the company's plans play out the way they expect them to. The first step is the repurchase of up to one half of Yahoo!'s stake, or approximately 20% of Alibaba's fully diluted shares.
In addition, a unique development is Yahoo! and Facebook announced agreements to launch new advertising together, and settle all patent pending claims between the companies. While normally this would be a positive development, Facebook has its own agenda when it comes to advertising. The company commands an audience of over 900 million registered users, and Facebook believes that it can more directly target ads at individual groups compared to a search portal such as Yahoo! One big advantage for Facebook, is members see the same newsfeed no matter where they login from. This newsfeed contains all of their friends: status updates, pictures, video, as well as advertisements placed strategically by Facebook. These ads look very similar to other newsfeed updates, and the company believes they will be more effective than traditional display advertising.
For me personally, one truly important announcement was the fact that Yahoo! and CNBC have announced a strategic alliance. This partnership should help both Yahoo! and CNBC. Yahoo! gains additional original information for its important Yahoo! Finance portal, and CNBCs online reach and presence are expanded. Since many in the financial community recognize the value of Yahoo! Finance, expanding this offering could be critical to keeping loyal users of this platform. While these developments are important for Yahoo!'s future, challenges still remain.
At this point, the Internet has been divided into basically three major categories of sites. The first division is search based sites such as Google, which serve as aggregators of Internet content into one place. In the past, the race was fairly close between Yahoo! and Google. At this point though, Google's lead seems insurmountable, with well over 60% market share in online search. The second category of sites, are shopping sites where there really are two clear leaders, Amazon.com and eBay. When people think of online shopping, they generally think of one of these two companies first. This leaves the third type of site, which is that of social networking. While Facebook is the clear category leader, others such as Twitter, tumblr., and Pinterest, also attract millions of loyal users. The fact that Yahoo! really does not register as either a shopping destination, or a social networking destination, leaves the company to fight the battle with Google for search and information. Considering Google's lead, without a transformative acquisition or merger, Yahoo! shareholders are in for a long road. While millions of people use Yahoo! Mail, and enjoy Yahoo! Finance, these two main features are not enough to make this company an attractive investment.
MHenage has no positions in the stocks mentioned above. The Motley Fool owns shares of Facebook and Google. Motley Fool newsletter services recommend Google and Yahoo!. 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.If you have questions about this post or the Fool’s blog network, click here for information.