Goldman Cuts Yahoo! Rating, Anticipates Single-Digit Growth for Online Advertising

Investment firm Goldman, Sachs & Co. cut its rating on Internet bellwether Yahoo!, citing the weakening economic environment and uncertainty surrounding new developments in the portal’s business.

Analysts covering the firm’s new Internet New Media sector downgraded Santa Clara, Calif.-based Yahoo! to Market Outperformer from Recommended List, on worries that it will continue to suffer from near-term instability as it retools into a three-legged proposition: ad-supported content and commerce, premium consumer content, and business services.

While the analysts said they still continue to view Yahoo! as “a leading Internet platform company and a core holding for [long-term] investors,” the firm lowered its 2001 revenue and earnings estimates — from $1.24 billion in revenue and $0.38 in per-share earnings, to $1.20 billion and $0.34 per share.

Goldman’s Anthony Noto, Michael Parekh and Kevin Flaherty said in a research note Tuesday morning that even though Yahoo! has one of the largest global Internet user bases for consumers and businesses, as well as one of Web’s leading brands, its third- and fourth-quarter performance depends on the growth of its new initiatives to support flagging ad income.

The analysts said they believe Yahoo! can squeeze more money out of its large user base through its current ad and commerce revenue, in addition to recurring fees for premium services.

Additionally, they said that Corporate Yahoo! — its corporate intranet/portal development business — could boost the company’s bottom line if it continues to expand it beyond the 24 clients now on its roster.

Goldman said the firm must throw extra effort into boosting its newer businesses — like premium content and business services — to offset not only slow advertising growth, but a severe, anticipated 44 percent drop-off in ad and commerce revenues from dot-coms during 2001.

Additionally, the company must hit an “aggressive” $165 million in new Fusion Marketing sales to make Goldman’s lowered 2001 ad/commerce estimates, which assume a “modest” 5 percent increase in existing advertisers, plus only an additional 4 percent growth from new advertisers.

That stands in marked contrast to industry-wide hopes that traditional advertisers will come to the rescue of beleaguered Web publishers. Instead, Goldman says it doesn’t even expect online media spending to increase as a percentage of overall ad spending during 2001. It also predicts industry-wide online ad spending will total only $8.8 billion, up 5 percent from 2000.

After analyzing Yahoo’s revenue growth by division and by traditional and dot-com composition, Goldman’s analysts say they believe its new “non-ad/commerce” initiatives — auctions, new premium services and Corporate Yahoo! — will have to bring in an additional $85 million to offset further losses due to ad sales and commerce to make estimates.

Nevertheless, despite Goldman’s bearishness on the near-term online ad market, analysts Noto, Flaherty, Tonia Pankopf, Coralie Tournier Witter and Joshua Fagen — who oversee the house’s Internet New Media sector watch — said they still believe it’s a good idea for Yahoo! to continue building up its online ad technology.

For one, a platform that can deliver millions of ads to a mass media property is “more attractive and scalable, long-term” than Yahoo!’s business marketing services (like Fusion Marketing), which is more labor-intensive and requires a longer sales cycle — but is necessary in the short term, until online advertising sees what analysts phrased “a sea change.”

And that will only come as online ad formats and metrics prove appealing to offline marketers. Additionally, ad agencies must be incentivized (by bringing Web creative work on par with TV, through increased fees and greater consideration for Web work in awards like the Clio) and otherwise encouraged to support the medium — a radical change

from 1999 and 2000, when booming Web publishers frequently circumvented agencies to contract with advertisers directly.

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