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Contributors: Douglas McIntyre Jon C. Ogg

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Wednesday, October 18, 2006

Yahoo: Can’t Get Any Worse?

According to Reuters:
Yahoo Inc. (YHOO) on Tuesday posted a 37 percent drop in quarterly profit on higher stock option costs and a weaker corporate advertising market, but the company said an improved Web search system was ready, and relieved investors pushed shares up almost 3 percent.

It can frequently be a positive sign for a stock when the shares rise on what would normally be considered bad news. As we noted in the past with Adobe (ADBE) such a combination frequently means that investors were expecting things to be even worse than the official estimates, and that they consider the poor report to be the worst things will get. (The opposite is also true when stocks fall on what “ought” to be good news.)

So we now have a beaten-up Yahoo reporting not only worse than expected revenue and earnings for its third quarter, but also issuing guidance that was below consensus expectations for the fourth quarter. Is it really the worst things will get? There is good reason to think so.

Google has been taking share and is currently expected to have a larger share of the online ad marketplace (25%) than any company has ever had. While it is certainly possible to imagine Google growing its share further, it is also easy to imagine Yahoo taking some of it back now that it has launched what it considers to be a competitive product.

Ultimately it will hinge on whether Panama is truly a better mousetrap. If it is (we’ll know in a couple of quarters) then yes, the worst is probably over. If Panama falls flat, however, things could get much uglier.

The author may hold a position in the securities discussed. A current list of the author's holdings is available here.

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