• by Wendy Davis  @wendyndavis, February 25, 2005

Surprisingly tepid spending on paid search so far this year led RBC Capital Markets to downgrade its rating to "sector perform" for both Google and Yahoo! in a report issued yesterday. Previously, RBC Capital gave a "top pick" rating to Mountain View, Calif.-based Google and an "outperform" to Sunnyvale, Calif.-based Yahoo!. RBC Capital reduced Google's target price to $200 from $250, and Yahoo!'s to $34 from $43.

In the Google report, RBC Capital analyst Jordan Rohan estimated that Google's prices were down by double digits for the first six weeks of the year, compared to the fourth quarter of last year. Even if prices increase next month, wrote Rohan, Google will likely end the quarter down 8 percent. Yahoo! also experienced an estimated double-digit price decline in the beginning of the year, wrote Rohan in RBC Capital's Yahoo! report.

For Google, RBC Capital revised its earnings to 87 cents a share for the first quarter, down from a previous estimate of $1.01 a share; $3.92 a share for the year, down from a previous assessment of $4.20; and $4.94 for 2006, down from a prior estimate of $5.20.

In addition to the slowing growth of paid search, RBC Capital saw a risk to Google from "well-funded competitors like Microsoft and Yahoo!"

RBC Capital was slightly more bullish on Yahoo! due to its "more diverse business mix," including branded advertising, which RBC still expects to grow by 44 percent this year. "While search may have limited upside, branded advertising on [Yahoo!'s] network continues to grow at a solid growth rate," wrote Rohan.

Nonetheless, RBC Capital revised its estimates downward for Yahoo!, with predicted earnings per share of 10 cents for the first quarter, down from a prior assessment of 11 cents; 49 cents for the year, down from 51 cents previously estimated; and 63 cents for 2006, down from a prior estimate of 64 cents.

Stock prices for Google and Yahoo! fell Thursday, as did share prices of AskJeeves, Momma.com, FindWhat.com, and LookSmart.