Why Yahoo's Panama Won't Be Enough

The Web's most visited site lags Google by billions in advertising revenue, and it's going to take more than its new ad-delivery technology to close the gap

by Catherine Holahan

Yahoo! had a rocky 2006. In fact, it had a Rocky Balboa kind of 2006. The pounding came from all sides. Investors—unwilling to hang in as Yahoo (YHOO) tried to match search giant Google (GOOG)—shied away, causing the stock price to fall roughly 40% to $25.56 over the past year. Social-networking sites, such as News Corp.'s (NWS) MySpace, created extra competition, jabbing at Yahoo's sides for advertising dollars. The organization even faced fighting from within, culminating in a leaked internal memo unfavorably comparing the company's efforts to peanut butter.

Now a new year is on the horizon, and there are hopeful signs that Yahoo, like the recently reappeared Rocky, is ready for a comeback. The most encouraging is the impending full release of Yahoo's "Project Panama." The long-awaited technology promises to whip Yahoo back into shape by delivering better targeted advertising with greater impact on Yahoo's bottom line.

But Yahoo may need more than Panama to convince investors it's a winner. While the company has concentrated on search advertising, rivals have gained ground by focusing on other methods of delivering targeted ads and brand experiences to online consumers. The competition also has been working hard to sell advertising on the social-networking and user-generated content pages that have exploded on the Web in the past two years, seemingly eclipsing the amount of more specialized editorial content around which Yahoo sells much of its most expensive advertising.

Ad Revenue Gap

Take, for example, MySpace, which receives search ads from rival Google. The social-networking site has developed popular friend pages for brands with which users can interact and create communities around (see BusinessWeek.com, 8/8/06, "Google Gets Back into MySpace"). Burger King's (BKC) "The King" campaign had 135,228 friends at last count. Yahoo, meanwhile, has only recently begun experimenting with similar marketing tactics.

If Yahoo doesn't figure out how to make significant money off its social media and user-generated content pages, it risks widening the ad revenue gap with Google, which has begun expanding beyond search ads into Yahoo's specialty—online branded advertising (the term given to ads intended to promote brands and cultivate an image of a product rather than simply make a sale). Yahoo already has quite a way to go to match Google in overall ad revenue. The search giant took in roughly $7.32 billion in ad revenues during the first nine months of 2006. Yahoo made just $4.14 billion during the same period.

Yahoo knows it must pick up the pace in areas outside of search. During its third-quarter earnings call, outgoing Chief Operating Officer Daniel Rosensweig discussed the need for greater quantity of "nonpremium" inventory, such as lightly targeted social-networking sites and user-generated content pages, and the company's need to better compete for ad dollars with such pages. "There are many new players and alternatives in the market," Rosensweig told analysts. "What we have to do is continue to adjust and evolve and to build packaging that marketers cannot get elsewhere."

Panama's Potential

First, Yahoo has to deliver Panama. The technology was originally due in mid-2006 and now is scheduled for a full rollout during the first quarter of 2007. Panama should deliver ads more closely related to search queries, resulting in greater ad clicks from Yahoo's audience and more pay-per-click revenue for Yahoo. And it should also increase revenue by accounting for the number of clicks that ads receive instead of just the amount bid for keywords. This is important because top-bidding advertisers don't pay Yahoo anything unless their ad is interesting enough to generate clicks.

Yahoo executives say Panama is on track to be a great success. "We are seeing the type of engagement from advertisers that we were hoping for," says Steve Mitgang, Yahoo's senior vice-president of advertising products and platform.

It's difficult to put a dollar figure on how much Yahoo stands to gain from Panama because the company does not reveal how much of its overall advertising revenue comes from search. Using data on total search queries, released by comScore, Caris & Co. analyst Tim Boyd estimates that Yahoo made on average between 10¢ and 11¢ per search in 2006, bringing in a total of $1.61 billion for the first nine months of the year. Google, meanwhile, makes between 19¢ and 21¢ per search. As a result, it made an estimated $4.99 billion during the same period.