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Yahoo! Inc. (NASDAQ:YHOO)

Q1 2009 Earnings Call

April 21, 2009 5:00 pm ET

Executives

Marta Nicols - IR

Carol Bartz - CEO

Blake Jorgensen - CFO

Analysts

Spencer Wang – Credit Suisse

Christa Quarles - Thomas Weisel Partners

Ross Sandler - RBC Capital Markets

Imran Khan - JP Morgan

Sandeep Aggarwal - Collins Stewart

Jeetil Patel - Deutsche Bank Securities

Sachin Shah - ICAP

Justin Post - Merrill Lynch

Youssef Squali - Jefferies & Company

Jason Helfstein - Oppenheimer & Company

Doug Anmuth - Barclays Capital

Heath Terry - FBR Capital Markets

Marta Nichols

Thank you and good afternoon and welcome to Yahoo!'s first quarter earnings conference call. On the call today will be Carol Bartz, Chief Executive Officer, and Blake Jorgensen, Chief Financial Officer.

Before we begin, I'd like to remind you that today’s call will contain forward-looking statements concerning matters such as our expected financial performance, our expectations for the economy in general and online advertising in particular, our product plans, our cost initiatives, planned investments and corporate strategic alternatives. Actual results may differ materially from the results predicted and reported results should not be considered indicative of future performance.

The potential risks and uncertainties that could cause our business and financial results to differ materially from our forward-looking statements are described in our form 10K filed with the SEC on February 27, 2009 as well as in the earnings release included as Exhibit 99.1 to the form 8K we furnished today to the SEC. All information discussed on this call is as of today, April 21, 2009 and Yahoo! does not intend and undertakes no duty to update this information to reflect future events or circumstances.

On the call today we will discuss some non-GAAP financial measures as we talk about the company's performance. These will include operating income before depreciation, amortization and stock-based compensation expense, which we will refer to as operating cash flow; revenue excluding traffic acquisition costs, which will be referred to as revenue ex-TAC; free cash flow, non-GAAP net income and non-GAAP net income per share. Reconciliations of these non-GAAP measures to the GAAP measures we consider most comparable can be found on our corporate website, info.yahoo.com, under Investor Relations.

We have prepared remarks that should last about 30 minutes. Then we'll have a brief Q&A session with Carol and Blake.

With that I'd like to turn the call over to Carol.

Carol Bartz

Thanks Marta. Good afternoon and thank you for joining us today. What an amazing and busy three months it has been since I joined Yahoo! I have learned a tremendous amount from our customers, partners, shareholders and most importantly from Yahoo!’s senior leadership and employees. I would like to share a bit about how I have been spending my time before turning the call over to Blake to discuss the quarter in more detail. Then I will talk about what has really excited me in these first three months and what I think should get you excited as well. Then we will take questions.

Starting with what I have been up to. I hit the ground running in January beginning with deep dives with our strategy and product teams on everything from our user products and advertising services to our internal structure and systems. I have also met with several very impressive individuals and teams including our industry leading sales forces in the U.S. and Europe, the exceptional talent in our engineering groups and research labs and many of our existing and potential customers and partners.

All of these conversations have been a great introduction for me and even provided some eye-opening experiences for those who have been here for awhile. The most important take-away from these conversations was the importance of having a “wow” experience for all of our users around the world. This means different things across the company. First, for our leading products it means greater investment and focus on creating and maintaining the best experience for users as they seek relevant, engaging information, content, communication tools and social environment.

In some cases it means discontinuing products that generate limited user interest or maybe improve by outsourcing with partnering. In still other instances it means meaningful changes in the advertising experience. On my first point, the best candidate for focused investment and renewed innovation are those products that generate the majority of our traffic and corresponding economic value.

These include the homepage, sports, news, finance, entertainment, mail search and mobile. Getting these products right is imperative to continuing to grow our massive user base and increase user engagement. Thus, we are focusing on three key goals to take this company forward. First, and most important, we are globalizing our platform so we can innovate more quickly in every corner of the world. That will enable our second goal; building fantastic products on top of those platforms that deeply engage our users, giving them that “wow” experience. Third, to better monetize our engaged user base we will continue to invest in industry-leading advertising platforms and services to build on our strengths in online advertising.

To help us achieve these goals in February I announced a new leadership structure. Let me touch briefly on the major changes and highlight the great team that is helping me run the company. We combined technology and products under one leader, Ari Balogh, as VP of Products and CTO. Ari’s charter is to deliver global platforms and products that enable the best user and advertiser experiences.

The newly created technology role that also reports directly to me, our SVP of Service Engineering and Operations, will focus on managing our technical infrastructure to deliver all our global products at scale with particular focus on getting the most out of our data center assets. David Dibble had joined Yahoo! in December and is leading that effort.

Our geographic structure will be simplified with the North American Region led by Hillary Schneider and the International Regions reporting into one leader, who we hope to appoint soon. We have established the role of Chief Marketing Officer to oversee our global marketing, communications and insight teams. Elisa Steele recently joined us in this role. I have also created a new senior role for customer advocacy. I believe we can do a much better job of hearing the voice of our customers, both users and advertisers. We are announcing today that Jeff Russakow has joined Yahoo! to lead this effort.

We are searching for a new CFO, but Blake Jorgensen will remain through the transition with his successor.

These changes represent a major shift in Yahoo!’s organization. The simplicity of our new structure will put a renewed focus on our customers and partners. It will enable us to make big improvements in our infrastructure and product quality and allow much clearer decision making and accountability. These organizational changes are the first step and are now cascading to the rest of the company.

We are combining the Product and Engineering team into a single, global organization. The next step is to reallocate resources to support our strategy. To invest in our highest return opportunities to allow us to focus on our strategic priorities and provide flexibility for accelerating hiring in key areas; we have made the decision to reduce our current worldwide headcount by approximately 5%. I want to be clear this is not the kind of across the board cost reduction Yahoo! undertook in Q4 in response to the macro environment. It is a natural outgrowth of the work we are doing to streamline our structure, globalize products, slim down our portfolio and eliminate duplication of effort.

It will enable us to take advantage of the great opportunity we currently have to invest in the key products, platforms and infrastructure that we believe will create strong, long-term returns for us and our shareholders. Many of you have told me that Yahoo! should aggressively invest in our products and infrastructure to be more competitive and I could not agree more. I believe that companies that invest in this environment will come out better positioned. Yahoo! is a strong company and we will continue to invest with the goal of becoming even stronger in the future.

With that let me turn the call over to Blake to discuss the quarter in more detail.

Blake Jorgensen

Thanks Carol. Two main themes marked our Q1 financial results. First, a difficult economic environment which affected all aspects of our global business. Second, aggressive cost management during late 2008 and early 2009 which helped us come in near the upper end of our operating cash flow range.

While the economy affected our revenues in Q1, our user engagement and volume numbers remained strong in our key audience products. We are continuing to invest in strategic areas including consumer facing products, ad market places and network platforms and infrastructure to position us for the eventual return to growth in ad spending.

First, I will walk through the profit and loss statement and then we will turn to the balance sheet and our Q2 guidance. Throughout today’s call, my comments on growth rates will refer to year-over-year growth unless otherwise indicated.

Total revenue for Q1 was $1.580 billion, a 13% decline. However, excluding the effect of the sale of Kelkoo, the anticipated lower fee revenue from our broadband partnerships, Voice Over IP and subscription music that we discussed on our January earnings call and unfavorable currency fluctuations, revenue declined only 3%. Worldwide owned and operated search revenue declined 3% to $399 million.

U.S. owned and operated search revenue grew 3% with query volume continuing to show strong growth at 11%. Revenue per search (RPS), however, declined somewhat due to softness in click yields. While query volume continues to grow and advertiser interest in search remains high, commercial queries and the corresponding click through rates have decreased which we believe has been due to weak consumer purchase intent. We believe this has been an industry-wide trend.

As for specific advertising segments in the search market, the consumer product, technology, entertainment and surprisingly the auto sector continue to show strong growth. However, this was offset by modest declines in travel and retail and weakness in the financial categories including credit cards and mortgages.

International search revenue was down 29% though only 12% on a constant currency basis. International search was affected by the same factors as the U.S. business with double-digit query volume growth but declines in RPS. Revenue from our affiliate business which is still principally search declined 16% to $511 million due to the same trends that affected our owned and operated search. The affiliate business was also impacted by our continued efforts to enhance the ROI of the affiliate clicks for our advertisers.

Graphic acquisition cost was 27% of total GAAP revenue. Marginal TAC rates rose slightly, continuing the trend we have seen over the last several years. Now turning to the display business. Worldwide owned and operated display revenue declined 13% to $371 million. U.S. and international both were down by roughly the same percentage; however on a constant currency basis international display actually grew 6%. Non-guaranteed display revenue continues to grow strongly. However, consistent with advertising trends during previous economic downturns we have seen pressure on guaranteed pricing and volume.

As we expected, display revenues in the automotive sector was down substantially though some non-U.S. auto makers increased their display spending on Yahoo! Display revenue from finance, technology and retail advertisers softened compared to last year. However, the consumer products and telecom sectors grew during Q1.

Despite the current pressure in some sectors of the advertising space we believe that premium display advertising will recover as the economy improves. We believe that major advertisers will continue to focus on premium, guaranteed time and placement buys to achieve both consumer awareness and event-driven objectives.

Listing revenue was down 22% to $102 million. However, excluding the impact of the sale of Kelkoo, listings declined 4%. Though the listings business actually grew in the low single digits on a constant currency basis. Fees revenue was down 20% to $197 million as expected due to the transitional revenue items we outlined in our January earnings call. Excluding these items, organic fees revenue was flat.

Looking at our overall geographic breakdown, U.S. GAAP revenue decreased 9% and revenue x-TAC decreased 13%. International GAAP revenue decreased 23% and revenue x-TAC decreased 20%. Exchange rate fluctuations had a $92 million negative impact on revenue for Q1. Excluding this impact, total international revenue would have declined 6%. Acquisitions contributed about 1% of revenue for the quarter.

Now turning to profitability. First quarter operating cash flow was $409 million which was near the top end of our guidance range. Cash costs were $747 million reflecting cost savings from December’s restructuring initiative as well as tight expense management during the quarter. We invested $70 million in CapEx during the quarter and generated $214 million of free cash flow. We ended the quarter with 13,500 employees, down slightly from our Q4 headcount level.

As Carol mentioned, over the next few weeks we will be implementing additional cost initiatives including a headcount reduction and continuing our process of managing discretionary spending. The organizational changes that we announced a few weeks ago are enabling us to eliminate redundant positions, consolidate groups around the globe and achieve additional non-headcount related savings. These cost reduction efforts will enable us to reinvest in key areas of the business.

Moving now to the balance sheet. We ended the quarter with $3.7 billion in cash and marketable securities. We have a strong balance sheet and have positioned our portfolio in highly rated securities, money market funds and deposits. At the end of the quarter the market value of our direct and indirect interest in the publicly traded securities of Yahoo! Japan, AliBaba.com and Gmarket was $6.8 billion or approximately $5 per share. These figures do not include the estimates of the value of Ali Baba Group’s privately held businesses.

Last week we reached an agreement to sell our 10% stake in Gmarket to eBay for $24 per share or approximately $120 million. We expect to record a gain on that sale during Q2.

Turning to our Q2 guidance, we expect GAAP revenue to be in the range of $1.425 billion to $1.625 billion. For modeling purposes you should expect TAC to be approximately 26% of GAAP revenue for the quarter. We expect Q2 operating cash flow to be in the range of $375-425 million. This guidance includes the benefits associated with the cost reduction efforts we have discussed today. However, it does not include the impact of restructuring charges we will take for the gain on the Gmarket sale. As Carol mentioned, we are reinvesting in the company’s top strategic priorities.

Because of this future investment I caution you not to adjust your cost expectations below our first half run rate. We now expect our full year effective tax rate to be between 41-44% and our cash tax rate to be between 11-14%. While many large advertisers have adjusted their marketing budgets due to the downturn, we believe that Yahoo!’s leading audience products, massive reach and innovative ad solutions continue to make us one of the most sought after advertising buys on the Internet. When the economy recovers and advertising budgets return to growth we will be well positioned to capture a significant share of those dollars.

As Carol mentioned, the company expects to be transitioning to a new CFO during the next earnings call so this will most likely be my last earnings cycle as part of the Yahoo! team. I would like to thank all of the great people in the organization for their hard work and dedication over the last two years. Many exciting things lay ahead for Yahoo! and I will be watching the company’s progress with great interest.

With that I will turn the call back to Carol.

Carol Bartz

Thanks Blake. I really want to thank Blake for his leadership, his tremendous contributions to Yahoo! over the past two years and for partnering close with me in my first several months here. While the economy will clearly remain a challenge for us, I believe our job is to focus on what we can control and what will move in the long-term and that is creating kick ass experiences for our users. We have got a lot of work to do but let’s remember the very strong assets Yahoo! starts with.

Yahoo! U.S. boasts the top ranked user sites across 13 categories including major destinations like mail, finance, news and sports. User engagement remains strong with worldwide page views up 8% in Q1. People come to Yahoo! every day to engage with things that matter to their lives from news and finance to the lighter side of life with sports and entertainment. The content and experiences on these properties are what draw millions of people to Yahoo! which is what attracts advertisers to work with us.

This year’s Oscar’s were a great example of how consumer habits are changing in our favor. The television audience for the Academy Awards was at its lowest level ever in 2009 but unique visits to Yahoo!’s Oscar site more than tripled. Yahoo! also continues to improve the way people connect to the experiences that matter to them most, regardless of time, place or device. For example, for the NCAA basketball tournament we created an integrated experience that provided fans with access to their brackets and breaking news anywhere at any time via their PC’s and mobile devices.

Speaking of mobile, I really have to tip my hat to that team. Our mobile team has clearly demonstrated that innovation is alive and thriving at Yahoo! They wowed the mobile world at the recent CTIA Wireless Conference. We received overwhelmingly positive response from users and press to our Yahoo! Mobile for Web and Yahoo! Mobile and Messenger iPhone apps. They are applauding Yahoo! Mobile’s simple and clean design and its easy customization. One reported praised it as the “most comprehensive and attractive personalized mobile home page yet.”

Yahoo! Mobile on the browser is now available on more than 300 devices around the world and the iPhone app is among the most popular in the Apple iPhone app store. If you haven’t seen it, be sure to check it out on our Mobile site or on the app store. All of these examples speak to the power of Yahoo!’s network to attract and engage users through great products delivered in any format on any device. We will maniacally focus on our most important products to make them even more engaging and compelling for our users and to generate improved returns for our advertisers.

Turning to advertising, we continue to innovate in both display and search in Q1. We introduced rich ads in search which are bringing the best of display advertising to search marketing and taking advantage of Yahoo!’s leadership position in both ad formats. We are the first search engine to offer a program for brand advertisers to utilize rich media in their search ads, creating fantastic new user experiences and new branding opportunities.

We also introduced the targeting features that allow advertisers to better reach consumers. Search re-targeting for display advertising leverages our search insight to better enable display targeting. This of course improves ad relevance and the potential for conversion. We also continue to enhance our sponsored search marketing system with new demographic targeting, ad scheduling and approved geo-targeting functionality to help advertisers maximize ROI. The response from advertisers and agencies has been extremely positive including one that called it “freaking awesome” and another remarking that our day parting is “so much easier than the competition.”

It should be obvious from the meaningful improvements we have made to both our algorithmic and sponsored search products over the past several quarters that search is a very valuable business for Yahoo! That is all we are going to say about search today.

Before we take your questions I wanted to answer one that I have gotten several times in the last few months. That is, what do current trends in the ad market place mean for the future of branded advertising? Does the growth in performance ad spending signal a secular shift away from premium branded ads? My answer is an emphatic no.

First, we believe the trend we are experiencing now is typical of a recession when companies are forced to cut costs, marketing is generally one of the first expenses to be reduced and branded advertising in particular often gets hit disproportionably hard. Any CMO will tell you their brand value is not determined by 20 search keywords. They know that pulling back on brand spending is a short-term solution that leads to long-term brand erosion. When a company stops investing in brand building it begins to lose mind share with consumers and then all-important market share.

In fact, trends we have observed among our top advertisers recently are revealing. Despite dramatic weaker overall ad budgets we have seen significant increases in spend by several non-U.S. auto manufacturers in an obvious bid to gain share. We have seen head-to-head competitors in several consumer categories pursuing very difficult strategies. One or two spending much more with us than a year ago and others cutting budgets dramatically. We believe these kinds of spending shifts will manifest in market share shifts down the road.

In telecom, a traditionally competitive ad category we are seeing most of the major players increase spending with us, which we believe indicates they are being aggressive to compete for share. Though some advertisers see opportunity because their competitors are cutting back, some have no choice but to slash spending and hope they don’t lose too much and others can’t cut spending at all because the competition is too great.

We believe every advertiser however knows an investment in their brands will ultimately correlate to market share. Associating with strong brands like Yahoo! is important for all of them. Separate from the usual recessionary trends in advertising there is one element in the current cycle that seems unique to us. Considering all of the major companies that have not only been forced to dramatically cut their marketing budgets but whose brands are under siege due to so much negative government press and consumer attention, we believe many of these companies will need to reintroduce their companies and their brands to the market and in some cases completely rebrand themselves to rebuild consumer trust.

We think these companies will want to associate their brand with leading offline and online media brands like ours. In short, I believe brand advertising will grow in an economic recovery and I believe our leadership position sets us up well to take meaningful share when brand budgets begin to grow again.

To sum up, let me say again how excited I am to be here. The current climate is tough but we have a strong foundation in our powerful brand and great products that suggest a bright future. Now is the time to get more focused than ever on delighting our users and advertisers. We are intently focused on creating “wow” experiences for our users creating global scalable platforms and accelerating innovation. Our goal is to make Yahoo! the best place online for the news, entertainment, content and services that enhance our users’ daily lives. I look forward to the challenges ahead and to helping all of you better understand Yahoo!’s strong position and potential. To that end, please save October 28th for the long overdue Analyst Day to discuss our strategy, products and meet our talented leadership. We will be sharing more details with you about the event as the date gets closer.

Okay, Blake is here with me to take your questions. Operator please poll.

Question-and-Answer Session

Operator

(Operator Instructions) The first question comes from the line of Spencer Wang – Credit Suisse.

Spencer Wang – Credit Suisse

I guess the first question is for Carol. I just wanted to get a better understanding about the performance in guaranteed versus non-guaranteed advertising. I think you cited that in guaranteed there was some pressure on pricing in the non-guaranteed side I guess volume is up strongly. What gives you the confidence this is just a cyclical phenomenon as opposed to something that will continue even at the close of the recession? One housekeeping question for Blake. CapEx was down about 50% year-over-year. Is that just a timing issue or is that the new run rate?

Carol Bartz

Your first question, first of all we don’t break out the difference between Class I and Class II. However, I will say a couple of things. The vast majority of our display revenue is Class I. However, Class II is growing a lot faster, in fact almost double, because people right now are looking for things as economically as possible. Back to what I said in my closing remarks, brand advertising is not going to go away. You are clearly not going to define your brand by letting it sort of float down the tail. You have to be able to have a location that you are proud of. You have to be able to have event-driven branding and you have to be able to have control of what your company stands for. So, I am very, very confident it is not cyclical.

Now, I have spent a lot of time with CMO’s both in the States and last week in Europe and they absolutely confirm it. They are just frantic because to be honest, CFO’s are controlling the marketing budgets in companies now. Not ever a good time. They really understand the importance of brand. They have confirmed that and so I feel very confident with this.

Blake Jorgensen

On the CapEx question, I would not use the first quarter as a run rate proxy for CapEx. Our CapEx is very lumpy, primarily associated with building out data centers and putting servers in data centers. While we are overall trying to minimize our CapEx in a tough economic environment we are also aggressively continuing to build the business to support our search and display capacity.

Operator

The next question comes from Christa Quarles - Thomas Weisel Partners.

Christa Quarles - Thomas Weisel Partners

Carol, do you feel well versed enough in terms of Yahoo!’s business to be in a position to respond to an offer for search and if not when do you think you will be positioned to respond? Also if you could give commentary on the overall quarter whether or not March was better than January and February and if the bear market rally had any impact on releasing advertiser budgets either late in the quarter or early in April?

Carol Bartz

I will take both of those. You know, I am well versed enough in the search business at Yahoo! to say it is absolutely critical to Yahoo! It is critical to our customers and partners that they have a combined search display experience on the Internet and so I haven’t changed my position on that. Relative to anything else with Microsoft I actually have no comment.

On the March versus January/February, I am not going to break the quarter down. Besides, anybody that thinks they are going to use one month of the year as a trend point or two weeks out of March as a trend point or whatever I think is just trying to be hopeful. Even though I saw the Times today declared the bottom, I hope they are right. A wise person would say stay to the side right now and let the economists figure it out.

Operator

The next question comes from Ross Sandler - RBC Capital Markets.

Ross Sandler - RBC Capital Markets

A couple of questions on the cost side. You announced in the fourth quarter you were going to lay off 10% of the work force and headcount has remained relatively flat and margins have actually improved. Can you talk about where those cost savings are coming from primarily? Blake, I thought you said on the guidance issue that not to model overall costs down in the second half of 2009 relative to the first half? Why are you not seeing the cost savings from either Q4 or this new headcount reduction flowing through in late 2009? The second question is on page views. Page views grew 8% in the quarter. Was that an organic growth rate normalizing for the removal of Kelkoo and a few other things? If so, what is driving the deceleration from the mid teens that you had the last couple of quarters?

Blake Jorgensen

Let me start on the cost side. We did remove in Q4 2008 1,600 people in the organization. So if you look at the cost and the headcount run rate going into Q4 you were almost 14,500 people and we are now roughly 13,500. So much of the savings for both headcount and non-headcount was established in the fourth quarter actions. Our run rate in the fourth quarter was close to $3.8 billion and now we are closer to $3.2 billion so it is a substantial reduction. I think the point on guidance was that as Carol mentioned we are very active at reinvestment into core parts of our business and organization to drive the growth strategy. What we want to be careful of is that people don’t immediately take all of the cost reductions we are doing today and drop that in their models. We will be continuing to invest in the back half of the year and as we give guidance on the third quarter next quarter you will see some of that come through.

In terms of page views, our page views grew 8% in Q1 which we think is a very good number. This is an organic rate and growth has been very strong for several quarters. We are seeing page view growth across all properties or most of our major properties. We are very pleased with the growth in page views. We have closed a number of properties as you may know and some of those have impacted or will impact page views but the bulk of those properties have been smaller which will not take the overall page view number down dramatically.

Operator

The next question comes from Imran Khan - JP Morgan.

Imran Khan - JP Morgan

Carol you talked about Class I inventory and ultimately the brand marketing will come back. I was trying to understand, one of the big challenges for brand advertising is unlimited inventory with Class II inventory. How does your Right Media acquisition and Blue Lithium acquisition fit into your new strategy in terms of focusing on the brand? Do you think that Right Media and Blue Lithium will dilute the value of some of your key inventory?

Carol Bartz

Key inventory and positioning always has a place in the strategy versus the randomness of inventory that is just sitting there. So again a lot of people are very concerned about where their brands show up and want to be very, very careful about it. Both Right Media and essentially Class II doesn’t allow for guaranteed timing placement. That is very, very important to marketing to know exactly where, when and next to what your ads are running. Channel doesn’t want to end up next to Harley Davidson if the timing doesn’t work.

Blake Jorgensen

Just to add to what Carol said, both Blue Lithium and Right Media have allowed us to continue to build more flexibility as well as a larger market place for advertisers both on Yahoo! and off Yahoo! properties. At the end of the day that continues to send benefits to our owned and operated strategy by taking friction out of the system and we are essentially helping prices rise over time which will benefit our owned and operated properties as much as it will benefit the members of the market place.

Operator

The next question comes from Sandeep Aggarwal - Collins Stewart.

Sandeep Aggarwal - Collins Stewart

Carol, the 8% page views growth was not bad but it was the lowest in the last five quarters. You had mentioned [inaudible] in terms of Yahoo! So the question is by when should we expect some of the key metrics like pages viewed growth reaccelerating?

Carol Bartz

You are saying you expect them to accelerate by Q3? What?

Sandeep Aggarwal - Collins Stewart

I’m just asking by when we should expect growth reacceleration in page views growth?

Carol Bartz

I’m sorry but for what reason? I don’t quite understand the connection you are making.

Sandeep Aggarwal - Collins Stewart

You mentioned the changes you are making in terms of globalization of the products and management changes, etc. and the last five quarters on a year-over-year basis your page view growth this was the lowest in Q1. Should we expect a growth reacceleration in pages viewed and if yes by when?

Carol Bartz

Definitely expect acceleration but let’s talk about the process here. You don’t globalize a platform just because the CEO says now globalize the platform. There is engineering to do here. There is investment in engineering. To fully globalize all of our platforms is probably a couple-year program. I mean, we are well along the way obviously in mail. That is by definition a global platform. Front page. But when you get to our media properties, for instance, they are not global. So this is not a flip the switch.

However, global isn’t the only thing. We also by making and engaging sites for our user, it also is what we are doing with the content, the editorial and so forth. So focusing on that at the same time we are focusing on globalizing the platform is another one of our investment areas. The whole idea of course once we get a global platform is we can flip a switch and be able to have products go around the world. For instance, the great music product we introduced a couple of weeks ago is only U.S. based because it is only a U.S. platform.

So, it just gives us much broader reach when we get there. But this is work. This isn’t just words.

Blake Jorgensen

I might add that we historically have not predicted or forecasted page view growth. We are focused, as Carol said, on growing users and engagement. Some of that shows up in page view, some of it doesn’t. I think at the end of the day while we won’t pick a time for some of the investments we are focused on now to start to bear fruit, what we will say is much of our focus is on the core properties of Yahoo! and you should watch for changes in the future around the home page, around finance, around sports and we believe some of those changes will start to drive page views. We just can’t predict exactly when that will happen.

Operator

The next question comes from Jeetil Patel - Deutsche Bank Securities.

Jeetil Patel - Deutsche Bank Securities

I guess when you look at your areas of your business, search and display, I’m just curious from a low hanging fruit standpoint where do you think you are, call it under monetizing your business, say long tail and search or what have you? Are there ways to look at opening up your platforms for other monetization platforms to try and monetize for you and I guess any way to quantify what kind of impact that would have one your business in terms of potential improvement in ad dollars that are available in the system that your sales force or your systems don’t currently address?

Carol Bartz

The biggest impact on the business of course is the economy. We are really, just like I talked a bit about display targeting, we are constantly looking at better features in search and Class I and Class II. If anything we do drive better monetization. Being able to serve up rich media with a search rather than just blue links. All of that is the marketers are telling us is important. That is why we again when we talk about what we are investing in, it is to make sure we can deliver these kinds of improvements and features to both the ad platform but also the algo part of search and also there is one thing we didn’t talk about much in the call but I think one of Yahoo!’s under estimated qualities or premium things is our sales force. I mean, the CMO’s basically say our sales force is creative. They are kind of teaching them more about the advantages and opportunities in online advertising and so it is both ends of the spectrum. It is building better platforms to monetize and it is having better relationships and stronger selling features and selling relationships. They both make a difference.

Blake Jorgensen

I would probably add to that as Carol said we don’t really see it as low hanging fruit as much as the economic environment. We are pleased that our search share continues to be stable and as you saw in the numbers the search volume was up from a queries perspective 11%. If the economic intent issue where you are seeing the major impact of the economy. At the end of the day people are spending their time online and they are searching but they are searching for a job, not a hotel in Las Vegas. That is impacting, ultimately, the ROI’s for our advertisers and thus what they are willing to pay for keywords in the business.

Carol Bartz

I do want to add something because this is relevant. We still aren’t easy enough to do business with when it comes to buying and again both here and Europe the advertisers have been very clear with me. So the platforms will help focusing on making ad buying easier. The other thing that we will focus on is our whole human driven ad operations so we can get ads up faster, all those things that are in what when I talked earlier about customer advocacy we have got a lot we can do in just making us easier to do business with in both the platform and the human operations side.

Operator

The next question comes from Sachin Shah – ICAP.

Sachin Shah - ICAP

You mentioned making reinvestments. Can you maybe discuss the type of returns you expect from such investments going forward relative to the past history? Second, the Gmarket sale to eBay or tendering of the shares that may be a precursor of additional divestments of assets in Asia, specifically if there is potential offers on the table for those assets Ali Baba and Yahoo! Japan?

Carol Bartz

Let’s talk about reinvestment. Reinvestment is the number one reinvestment is those global platforms I am talking about. I can’t over-estimate the past focus that the company had on the U.S. market which really left the international properties to sort of almost fend for themselves. What that meant is they hired engineers and twiddled with the basic platforms which means that even though they were important markets they were totally on different time frames and anything we tried to do like I will give you an example, we have a new home page coming and I wanted to make sure we have the same look and feel that rode through all the properties. Guess what? We can’t do it without a lot of work going on each platform by platform by platform, which is really nonsense in this day and age. That first investment is to globalize our basic products.

The second is as I said we can do so much more interesting things with sports, with finance, with partnerships in these areas. For instance, the European sport sites have teamed up with Euro Sport. That is the sort of ESPN of Europe. There is so much we can do with Euro Sport; we just have to have more hands and feet to get that content and to get the right editorial on all these sites. That is the second thing.

Then the third thing is we need to market ourselves. We need to make sure we do have the right sales people in all these emerging regions and all that investment by the way will pay off I believe to more innovation, faster and better user engagement and the stuff that we need to make Yahoo! just a hot site because if we are a hot site advertisers follow.

Blake Jorgensen

I’ll take the Gmarket sale question. We did indeed choose to tender our investment as eBay was buying that business. GMarket was an opportunity that goes back now 3-4 years for us to be able to have a foothold in an Asian online merchant business primarily in Korea. Gmarket has done an amazing job building up that business. We are very pleased with the financial return we got on the sale but that is not part of our focus in this area. I think as you know we sold Kelkoo last year and when the opportunity came to sell our stake in Gmarket we chose to do that. I don’t think you should read into that in terms of future Asian divestments either pro or con. We will always consider our options there but Gmarket was essentially a 10% holding in a public company traded on the U.S. market, a very different asset than Ali Baba or Yahoo! Japan where we have partners to consider, tax implications, a major presence in both the Japanese and Chinese markets, very different small investment in Korea.

Operator

The next question comes from Justin Post - Merrill Lynch.

Justin Post - Merrill Lynch

Looking at the revenue in the quarter it was slightly below the mid point on a GAAP basis. I’m not sure where your TAC thinking was. Can you comment on a couple of areas where maybe were more pressured than you expected in the quarter? Was it just overall economy just didn’t pan out quite as much as you had thought or what drove that? Then the second thing is on the network traffic quality you put in the release some of the efforts it sounds like you are making to lower revenue per search there do you think that is going to get reinvested with Yahoo! search and how you see that happening?

Blake Jorgensen

Thank you for the question. In terms of the revenue I think the overall economy we saw pressure everywhere. We saw more pressure in display than we did in search and certainly pressure internationally that got reflected, it looks worse than it is primarily because of the major changes in foreign exchange during the period. So I think what you would expect to see in a difficult economy we saw across all of the industry sectors. In particular, for example, the display in the auto sector as we mentioned. As you know we have seen a major shift in auto spending domestically and we saw that in our business no different than print or TV would have seen it.

Surprisingly, we saw some strength as well in some of the technology sectors and some of the consumer sectors both in search and in display. Where you would expect to see a credit card or mortgages is exactly where we saw it in our overall business.

On the network quality we are continuing to try to focus on investing in what is core for our business. We are taking ongoing steps to continue to improve the traffic quality so advertisers who are using our search product are getting a great ROI. We are seeing the same type of RPS declines in the affiliate business that we see in our owned and operated business mainly because we think that is coming from the purchase intent side of the equation. We are also trying to just make the experience for users as best as possible and in doing so trying to move away from lower quality affiliates and focus on the highest quality ones.

Operator

The next question comes from Youssef Squali - Jefferies & Company.

Youssef Squali - Jefferies & Company

Carol, in your prepared remarks you talked about the three focus points and the third was to invest in advertising platform and services to better improve your monetization. Do you need to invest in search along with display advertising? I guess what I am trying to get to is do you need to remain a principle in search to kind of draw the benefit both financially and draw the intelligence that you could then use in growing your display business? Blake could you talk a little bit about the decline in search revenues? We were a little surprised there. Would that now accelerate the rate of decline that is with the loss of the tool bar deals that you have had? I think you lost some a couple of quarters ago. Maybe you can help us actually quantify the loss from those deals?

Carol Bartz

Back to investment, absolutely we need to invest in both search and display and the monetization of those. When I talk about ad platforms it really is a combination of things. It is better customization and visibility for our advertisers and it has to be a lot easier. By the way it again somebody asked earlier about ad network and so forth. All of this is an opportunity and it all points back to work on our ad platforms. You asked if we need to be principle in search which is one of these little tricky questions which I am not going to answer directly. What I am going to tell you is I remain obstinate on the point that search is important to our users. Search is important to our customers and it is that simple.

Blake Jorgensen

In terms of the tool bar deals and search revenue, first on search revenue don’t forget there is an international currency impact and so when you look at the U.S. business it is up 3% on a revenue basis. I think from a tool bar standpoint the key number to focus on is search volume and queries is actually up 11%. That would argue that the tool bars haven’t had as much an impact. I don’t want to say the tool bars are unimportant, they are. We have looked at historically the economic cost to operate in tool bars and we don’t think that economic cost is worth the trade off at some of the prices that these tool bar deals have been struck at.

I think more important what we are really seeing as I said earlier is the pressure on click yield due to the economic weakness and softness in ad budgets. As advertisers are, and you know this, adjusting their keyword buys almost daily around campaigns and they are not seeing economic intent translate into actual economic action either online or through offline actions. They are adjusting their ROI and their spending levels. That is where we are seeing the biggest impact.

Carol Bartz

Actually I think our search results are totally consistent with what is happening in the industry. To be honest it is like online window shopping. People are just grazing around. They are just not clicking through to buy just like they are not going into stores. They are just checking everything out. I don’t think, in fact if anything I am really pleased at where we came in because marketing budgets have been slashed a heck of a lot more than our decline in any of these metrics. It is my belief that we must be gaining share.

Operator

The next question comes from Jason Helfstein - Oppenheimer & Company.

Jason Helfstein - Oppenheimer & Company

Another comment or question on the display. Can you comment on the conversations with advertisers? When they are coming in are they coming in with set budgets and it is a function of how much inventory they are going to get for the amount of money they are prepared to spend? Or are they willing to discuss basically kind of customized or more high value solutions and then talk about how they are going to adjust their spending to achieve targets? Any color around those discussions would be helpful. Second, on the margin guidance, is the 5% headcount reduction in your second quarter margin guidance or will it be partially in Q2 and then trickle into Q3?

Carol Bartz

Let me take the second one last. We will be announcing to as many employees as we can, which means by law the U.S. mostly because Europe is under different laws as to how you can announce within the next two weeks. Our guidance will have provided you the effect on Q2 which is basically just about 2/3 of Q2. So that is the guidance Blake gave you does that that into effect. Obviously with some delays and legal reasons into Europe and Asia.

On display, listen the customers are all over the map. Absolutely they are willing to customize for high value solutions because as both Blake and I said in our remarks, some advertisers are being very aggressive now and trying to grab the hearts and minds and get the attention and some frankly have had their budgets slashed so much they are just in trying to pick up where they can. So it is all over the map just as you might expect. GM is doing one thing. Toyota is doing another. So it just depends on their circumstance and to be honest, I think it depends on how strong the CMO is versus the CFO.

Operator

The next question comes from Doug Anmuth - Barclays Capital.

Doug Anmuth - Barclays Capital

Carol you touched on advertising platforms a little bit. Can you talk specifically on Act and what their timing is for roll out here and what technology or platform factors might be involved? Secondly, Blake is there anything else that is one-time in nature in the 2Q revenue outlook beyond some of the things that impacted in Q1 as well?

Carol Bartz

I would be happy to talk about Act because I have actually spent some time on this issue. There is no such thing as a roll out of Act. Act is a product that will be ongoing for a long time. We will have releases periodically. I hope more sooner rather than later. It is a big hunk and important platform for us. It really has to solve two things. It has to replace an internal ad serving platform we have and our Right Media RMX platform. To some extent I would tell you from my software background it was a bigger task than I think the company understood to be honest. I think frankly it has a great architecture. It is not that easy to use right now so there is functionality that has to be added both on acceptability and then also constantly on more features. There is no such thing as a roll out and then it is rolled out and there we go. We will have Act releases on a regular basis and that will be one of the things we can talk to you about in October to give you a better idea of what things are in our roadmap. Please don’t consider it a one-time thing and then we are off to something else. Act is perfect and now we are on to whatever. It is not that way at all. It is a product you are going to hear about for years because it is central to the strategy of the company and it will continue to have to just be improved and better and better and so there are advertisers who will just say wow that is just the best thing we have ever seen.

Blake Jorgensen

On your second point, nothing that is new in terms of the one-time nature. I think the reminder that we said in the Q4 earnings was that Kelkoo for the full year contributed in 2008 roughly $80 million in revenue. We expected fees revenue to decline in 2009 by roughly $80 million due to the broadband partnerships. We expected fee revenue from Voice Over IP and subscription music to decline roughly $65 million in 2009 and that we had a currency impact. You saw the currency impact in the first quarter. We believe the second quarter is a similar size impact, about the same amount at roughly $90-100 million based on where we see currency today. No other changes other than that.

Operator

The next question comes from Heath Terry - FBR Capital Markets.

Heath Terry - FBR Capital Markets

First, the growth that you actually saw on a currency neutral basis in your international display business, can you give us an idea of what you think it is that is driving that? Is it pricing? Are you gaining share relative to your competitors from a page view or ad inventory standpoint? On the investment you are making to become a global platform can you give us a little more color on the size of the engineering challenge that is and to the extent you can talk about the dollar amount of the investment that is going to be necessary to achieve that goal?

Blake Jorgensen

I can start on the growth on the display business internationally. In the case of international, the smaller markets particularly in the emerging markets had an exceptional growth quarter. Now obviously that is off a smaller growth base. But we continue to see strong growth. Much of that has been market development related so I couldn’t tell you if I believe we are gaining share or not. That is still too early to say. We are encouraged by the growth in that market. In the quarter we also considered Canada as part of our international. That will get shifted into the U.S. business as we go through our reorganization but some of the growth was coming out of our Canadian market as well.

Carol Bartz

As far as the investment of the global platforms, you know the real important issue frankly, well there are a couple of important issues but of our reorg was to get engineering focus and it was sort of scattered to the wind, I’m not talking about an engineering center in Bangalore or whatever. I’m talking about engineers almost in every country. So a lot of what….and way too many product people. So when I say product people we sort of had a one product management person for every three engineers. So we had a lot of people running around telling engineers what to do but nobody is fucking doing anything. So, excuse me. I knew that would slip out one of these times.

So, the point of the matter, first we are getting all the engineers on the same page. We are getting rid of a lot of those product people that you know whatever. And, sizing engine by engine, how close are we…and by the way to understand this, while we are re-engineering let’s say the sports engine to be global we have to keep the sports platforms around the world running so we have kind of an overlap issue here. So therefore it just made sense to us because we have to get going on this to do this cost cutting so we can grab the right people, hire better engineers…not better, but I mean more engineers. We have good engineers but hire more of them and get them focused on the right stuff. So we are not going to give you an exact investment. I’m just going to tell you it is probably the most important thing that Yahoo! is going to do to really become a big, strong, growing international company.

Thank you.

Jake Jorgensen

Thank you everyone.

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Source: Yahoo! Inc. Q1 2009 Earnings Call Transcript
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