Yahoo and Intel: Tech Sector Outcasts

The Web portal and chipmaking giant operate in areas where demand is rising at a healthy clip. So why aren't they performing better?

by Catherine Holahan and Olga Kharif

Investors seeking early indications of the tech sector's health typically turn to earnings reports from Yahoo! (YHOO) and Intel (INTC) for guidance. As one of the Web's largest media companies, Yahoo is considered a bellwether for the online advertising market. Intel, the world's largest maker of computer chips, is a harbinger of demand for computers and the components that make them run.

Second-quarter reports from Intel and Yahoo released July 17 belied strength in all those areas—and showed why both are so hard-pressed to benefit from it.

Yahoo said net income fell to $160.5 million in the three months ending June 30, from $164.3 million a year earlier, with per-share earnings unchanged at 11 cents. Yahoo also lowered its sales forecast for the third quarter to $1.17 billion from $1.31 billion, compared with earlier guidance of $1.2 billion to $1.3 billion.

Not Enough Revenue

Yahoo's results contrast with the healthy growth of the overall online advertising market. According to research firm eMarketer, online advertising will swell more than 28% to $21.7 billion in 2007 from $16.9 billion in 2006. EMarketer expects Google's (GOOG) ad revenue to rise by 45% in 2007. Yahoo, on the other hand, expects full-year revenues to fall between $4.89 billion and $5.19 billion, a decline from last year's $6.4 billion.

Company executives are well aware of Yahoo's plight. "There is a significant gap between where Yahoo is and where it needs to be," Yahoo Chief Executive Officer Jerry Yang said on a conference call with analysts. "We are becoming smaller as part of the Web's overall activity." Yang in June replaced Terry Semel as CEO to help Yahoo trim Google's lead in Web search and the ad revenue it generates. As one of his first acts as CEO, Yang promised Yahoo would undergo an extensive 100-day review. Yahoo President Susan Decker highlighted several recent errors, including the failure to more swiftly revamp the company's method for matching ads with search results—a lucrative talent perfected by Google. Decker also lamented Yahoo's reluctance to shake up its staff. "We have been at times risk-averse in making personnel decisions," said Decker.

Yahoo's stock declined more than 4% to $26.37 following the announcement. "The continued uncertainty in nearly every segment of Yahoo, and a 100-day strategic review result in limited visibility of estimates, growth, and thus valuation," Goldman Sachs (GS) analyst Anthony Noto wrote in a July 17 note to investors. "We still recommend staying on the sidelines as transitions typically take longer and result in deeper cuts than expected."

Losing the War?

Like Yahoo, Intel also is failing to fully benefit from rising demand in the areas of tech it dominates. The chipmaker said net income rose 44% to $1.28 billion as sales rose 8% to $8.7 billion amid demand Intel CEO Paul Otellini described as "strong." Yet, Intel's shares declined 4.9% to $25.05 in extended trading.

Intel's problem is a price war with archrival Advanced Micro Devices (AMD) that's putting pressure on margins. The company's gross margin, a yardstick of profitability, was 46.9%, suggesting Intel will have an uphill climb meeting its full-year forecast for margins of 51%. "Pricing had something to do with it," says James Ragan, an analyst with Crowell, Weedon & Co.. Price pressure is particularly severe in the low end of the PC market. Intel was also beset by slumping demand for chips used in mobile phones, but is spinning off the business that specializes in those chips.