STOCK WATCH


Yahoo: Fighting Back

Google and a host of upstarts are cutting into Yahoo's business, but the portal has a plan for boosting revenues and profits.



The masses love using Yahoo. With more than 500 million users a month, it's still the most popular Web site in the world. But you wouldn't know that looking at the company's stock, shares of which have plunged 34% this year.

Rivals are simply beating up the godfather of Internet portals. Yahoo has been the favorite punching bag for Google, which has done a better job of earning money from online advertisers. Meanwhile, young upstarts like MySpace, Facebook and YouTube cut into Yahoo's share of users. These sites offer user-created music, photos, videos and Web pages that have slowed the growth of demand for Yahoo's content and services.

Still, Yahoo hasn't taken its thrashing lightly. The company hopes payback to Google will come from something code-named Project Panama. The mission is to generate more revenue by improving how Yahoo gets paid by search-engine advertisers. To do that, the company is upgrading its search-engine software.

Yahoo search users won't see much of a difference with the change, but the company expects its advertisers will take notice. The current search engine ranks ads only by the amount paid for keywords. The Panamanian version will rank search ads by the amount advertisers pay for keywords and the relevance of each online advert. The system will be similar to what Google does. Yahoo will change to the new software in 2007. Last year, search-engine ad sales made up about a quarter of Yahoo's $5.3 billion in revenue.

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The prospects of the Yahoo software upgrade have earned the stock several analyst upgrades recently. Oppenheimer analyst Sasa Zorovic boosted his rating from "neutral" to "buy" on Nov. 17. Zorovic says his talks with Yahoo advertisers who have used a Panama prototype are encouraging, and he predicts that the company will deliver better results a year from now. Merrill Lynch analyst Justin Post concurs. He raised his recommendation to "buy" on Oct. 30 and expects Project Panama to generate up to $500 million more in revenue.

Both Post and Zorovic recommend buying Yahoo's beaten-down shares of Yahoo makes now before revenue and profits from software upgrades kick in.

Like betting on a staggered boxer on the ropes, buying Yahoo shares on the Project Panama premise comes with considerable risk. As Morningstar analyst Larry Witt starkly puts it: "If Yahoo's new advertising platform does not perform as expected, the firm may never recover."

But Yahoo is more than a search engine. It is a mighty distributor of online content and has committed to making acquisitions of new products that can attract more users. The purchases of photo-sharing site Flickr and online contest promoter Bix are just a few recent examples. The company has $2.1 billion in cash if needed.

The Oppenheimer upgrade had relatively little impact on the stock (symbol YHOO), which closed Nov. 17 at $26.91, up 27 cents, or 1%. Analysts, on average, expect Yahoo to earn 60 cents a share next year. That means the stock sells at 45 times next year's estimates -- not a low number, but a lower price-to-earnings ratio than most of its rivals. Post and Zorovic think the stock is worth $32 a share. Even if Yahoo manages only some of the search-advertising gains they project, the stock could be a winner.




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