Yahoo's first-quarter non-GAAP earnings were up 22.3% sequentially, better than what most investors were expecting. The primary reasons for the earnings growth were a lower tax rate and lower share count.
GAAP revenue for the quarter was down 7.8% sequentially and up 0.6% year over year at $1.22 billion. The sequential decline was due to lower-than-expected display revenue in the quarter. The gross margin was down 278 basis points (bps) sequentially and 151 bps year over year at 67.4%. The operating margin also shrunk in the quarter due to significantly higher S&M expenses.
Second Quarter Guidance
Yahoo expects revenue (ex-TAC) of $1.08 billion, down 11.2% sequentially. TAC is expected to be $140-$150 million and other costs $915-$945 million. This is expected to generate operating income of $115-$195 million.
Agreement of Analysts
Out of the 23 analysts providing estimates, none revised the estimate for the second quarter, in the last 30 days. Over the same period, one analyst made an upward revision for fiscal 2012.
The majority of analysts expect a decent second quarter, with revenue coming in line with management guidance. Though they do not expect any upside to the display estimates in the second quarter, they believe that the display business can return to double-digit growth in the third quarter. The analysts believe that the company's restructuring initiatives will better align costs with revenue, thereby improving the margin profile.
A few analysts remain optimistic about Yahoo shares as the company sells up to half of its stake in Alibaba (OTC:ALBIY), or approximately 20% of its shares, back to the Chinese e-commerce company for about $7.1 billion. The company intends to distribute all its after-tax cash proceeds from the deal to shareholders, most likely in the form of stock buybacks.
However, a bunch of analysts remain cautious about the headwinds that Yahoo continues to see in its core display and search businesses. They remain concerned about search volumes and believe that the organizational turmoil will cause the company to grow at a slower pace in the near term than it might otherwise have done. Additionally, the analysts believe that Yahoo will continue to lose share in the paid search market to its competitors, Google Inc. (NASDAQ:GOOG) and Microsoft Corp. (NASDAQ:MSFT). Hence, they do not expect strong second-quarter results.
Magnitude of Estimate Revisions
In the past 30 days, there was no change in the Zacks Consensus Estimate for the second quarter as well as for fiscal 2012.
Over the 90-day period, the Zacks Consensus Estimate was up by a penny to 20 cents for the second quarter and by 12 cents to 94 cents for fiscal 2012.
Though Yahoo remains one of the biggest Internet names and has a position in online search, it has been up against strong competition in search from arch rival Google for some time now. Though in the first quarter, search revenue increased sequentially, we expect search market share to deteriorate further and search-related issues to continue for a few more quarters.
The interim CEO Ross Levinsohn is working on areas other than its search business to drive revenue. We believe that the company is focusing on improving its content and looking to protect its share in the display and video ad market. Last month, the company signed content sharing deals with Spotify and Clear Channel to boost its online user base. Others include agreements with CNBC and Walt Disney's (NYSE:DIS) ABC Television Group.
Very recently, Yahoo signed a new advertising partnership with Facebook Inc. (NASDAQ:FB) settling all their pending patent lawsuits. This is a big positive for Yahoo as it was spared from a long, drawn out legal dispute.
Though Ross Levinsohn has been trying to grab all possible opportunities, we still don't see a turnaround in the business. To make matters worse, the management turmoil continues following the dismissal of its third CEO Scott Thompson in just three years. We expect the company to formally announce Ross Levinsohn as its new CEO during its second-quarter earnings announcement, which should eliminate the uncertainty around its management team.
In the upcoming second quarter, we are unlikely to see robust revenue numbers due to weakness in both the display and search businesses. However, gross margin figures could come above expectations due to cost control measures taken by management.
Yahoo shares carry a Zacks #2 Rank, implying a Buy rating in the near term (1-3 months).