With Google (NASDAQ:GOOG) up 20% and Yahoo (YHOO) down more than 30% over the last 12 months, there is no doubt who is the 2006 winner. Google still has hordes of supporters, while Yahoo seems to have lost many because of a quite disappointing fiscal year.
Year 2007 will very likely start with the same theme. People will keep on buying Google, based on its strong growth and solid position built in the paid search business, and at the same time Yahoo will continue to struggle, with no good news expected in the first quarter of the year, at least. But this could maybe change after Q1...
YHOO-GOOG 1-yr performance chart
Despite 2006 results, my long term contrarian idea is to long YHOO and short GOOG.
Paid Search Monetization Opportunities
Even the biggest supporter of Google’s model would agree that there is much more room for improvement in Yahoo’s paid search monetization than in Google’s. I came across some research recently showing that Yahoo generates $0.04 per US search vs $0.11 at Google. This is almost a 65% discount! The success of Project Panama [placing ads based on price and relevancy of ads] could significantly reduce the gap. A reduction of the gap to a more reasonable 30% discount [$0.077 per search] would generate something like $800m of extra revenues based on the number of searches in IIIQ 06. And, more important, these extra revenues come at no extra cost, which means that they will convert in EBITDA. The interesting thing is that Wall Street has, thus far, been disappointed by Project Panama and therefore has low expectations from the search monetization opportunity. If Yahoo delivers above expectations, a series of upgrades could follow. Affiliates can be a plus. They’ve been leaving Yahoo for Google due to better monetization, but, given the low switching costs, they could easily come back if Yahoo starts offering them a better value proposition. In the worst case scenario, Yahoo could end up outsourcing search monetization to Google, thus improving the P&L anyway.
Internet Users' Tastes May Change Over Time
At the beginning, internet advertising meant only banners; then, people got used to them and stopped clicking. Click through rates declined dramatically and cost-per-click [CPC] emerged. Now video advertising is on the rise. Will CPC effectiveness decline? I honestly don’t have an answer. But what I see is that Yahoo has a balanced portfolio of ads inventory including CPC, cost-per-thousand [CPM], cost-per-ad [CPA] and video advertising. And having many products certainly helps in a ever changing industry like online advertising. Google currently looks very much like a one product company. It’s a wonderful product and it’s working very well. But in technology, things change very fast...
Yahoo looks to me to be more web 2.0 friendly than Google. Or, to put it in other words, it’s a better platform for user generated content, which right now appears like the place to be. Think of Yahoo Answers, its success and the failure of Google’s version. Google is the best place for search. Yahoo is one of the best websites for general web content. While I don’t want to debate the value paid, YouTube’s acquisition demonstrates to me that Google is probably not well prepared to build web 2.0 services / applications internally.
Sustainability is a concept I always stress when discussing long term investments. Google has a couple of competitive advantages, namely the best search results and an incredible monetization system. A friend in the VC industry recently told me about several start ups now working on better paid search monetization models. Today they are just a bunch of kids in a garage, tomorrow who knows... what is certain is that Google will have to invest more and more in order to maintain a competitive advantage in an industry where switching costs are marginal.
Bottom line: By saying "long Yahoo and short Google" I’m not necessarily assuming that Google’s stock will fall. What I am saying, however, is that, at this point, I see more room for growth in Yahoo rather than Google stock over the medium to long term, thanks to its restructuring opportunity and a broader product range.