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The Outlook

Internet Predictions for 2009

Last year, economies slowed and entered recessions. Market declines were reminiscent of the 1930s. Volatility set records. Companies failed and filed for bankruptcy protection. Many deals died or were killed. Things changed in the world and in the United States.

The world of the Internet saw its fair share of history as well. The segment’s largest-ever merger was proposed by Microsoft (MSFT). And by rebuffing its overtures, Yahoo (YHOO) made arguably one of the worst decisions of the year, in our view. Google's (GOOG) acquisition of DoubleClick was finalized, but its search-advertising business arrangement with Yahoo was derailed. The iPhone and other super smartphones gave people more ways to access the Internet. Industry legends Meg Whitman and Jerry Yang left their posts at eBay (EBAY) and Yahoo, respectively.

Last year, we professed eight prognostications about many things Internet. We had some hits and some misses.

We predicted a blockbuster financial transaction would be announced in 2008. We said that Google would continue to make inroads in the mobile segment, but not claim wireless spectrum or become a mobile carrier. We thought VeriSign (VRSN) would exit the content delivery space and saw increasing competition and pressure on category leader Akamai (AKAM). We projected that Google’s gross revenues would increase 39% (through three quarters, they rose 37%, even though our current 2008 growth forecast is 33%).

We thought Yahoo would have a better 2008 than 2007. It's probably fair to say that we were painfully close in that prediction, but resoundingly wrong nonetheless. We thought eBay would also do better by users and shareholders, but were incorrect again.

Let's move on to our predictions for 2009, starting with a few prognostications about Google, which notwithstanding its stock's more than 50% drop in 2008, is still the world's largest Internet company.

We think Google will continue to gain search market share in the United States and most countries around the world. However, China and Russia will likely remain challenges for the company.

In our view, Google's relationship with Apple (AAPL) will, due to growing competition between the companies, become increasingly uneasy, despite its Chairman and CEO Eric Schmidt being a member of the Apple board. Nonetheless, even though we believe Apple is working on some kind of search technology that could help enhance iTunes, we don't see the company as a likely near-term entrant in the search wars.

We believe Google will continue its successful push in the mobile segment, as a number of Android-enabled phones are released by the likes of Motorola (MOT), Sony Ericsson, and Samsung in the United States and countries around the world.

Although the precise impact will likely be unclear, we expect Google’s financials to benefit significantly from the mid-2008 addition of CFO Patrick Pichette, who seems focused on maximizing revenue opportunities and reining in costs. As a result, we expect the stock to notably outperform the S&P 500 in 2009.

Microsoft and Yahoo will finally bury the hatchet and decide to join forces to better compete against Google, in our view. We don't expect Microsoft to try to buy Yahoo outright, and have mixed views about whether Microsoft will attempt to purchase Yahoo's search business, but at the least we see some kind of significant joint venture related to search. We think this development will help Yahoo shares, on which we have a buy recommendation, outperform the S&P 500 in 2009.

We foresee a flight to quality in Internet advertising and an associated consolidation of online advertising networks. Our strong sell opinion on ValueClick (VCLK) reflects the related challenges we see. Specific to ValueClick, we also have concerns about other offerings from its media units, and its e-commerce-related affiliate marketing and comparison shopping segments.

We have two China-related predictions:

We expect Baidu (BIDU) to do a decent job of weathering multiple issues, related to China’s slowing economy and company-specific legal matters. We have a buy opinion on the ADRs and expect them to outperform the S&P 500 in 2009.

We expect The9 (NCTY) to win a license renewal of Activision Blizzard's (ATVI) World of Warcraft and continue operating the game in China. Although we anticipate that the new deal will be less profitable for The9, we believe this news will be a positive catalyst for the ADRs, on which we have a buy recommendation. We expect the shares to also outperform the S&P 500 in 2009, and note The9 recently had almost $12 per ADS in cash and investments.

We believe eBay will reduce its ownership interest in Skype, possibly completely, by selling the business to a large technology, Internet, or media company. The proceeds will likely be used for buybacks and perhaps a dividend, and contribute to what we expect will be outperformance relative to the S&P 500 in 2009, for these buy-ranked shares.

Notwithstanding what may happen with Skype, we foresee a lack of multi-billion-dollar transactions, but expect a number of sub-billion-dollar deals, as companies look to better focus and raise cash. We would not be surprised to see activity associated with Akamai Technologies, InfoSpace (INSP), Move (MOVE), and RealNetworks (RNWK).

We'll check back in a year or so and let you know how we did with our predictions and what we see for 2010.

Kessler follows technology stocks for S&P Equity Research .

All of the views expressed in this research report accurately reflect the research analyst's personal views regarding any and all of the subject securities or issuers. No part of analyst compensation was, is or will be, directly or indirectly related to the specific recommendations or views expressed in this research report. Standard & Poor's Regulatory Disclosure

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