Internet Analysts Expect Solid Q3 Results

Internet advertising overall remained solid during the third quarter despite Yahoo's warning last month of slower ad sales.

That's the conclusion of several analysts as major Internet media and advertising companies, including Google and Yahoo, prepare to report quarterly earnings next week. Yahoo's stunning disclosure of weakness in advertising for autos and financial services in September is viewed as specific to Yahoo rather than signaling a broader online ad slowdown.

"We continue to see robust growth in the online advertising sector," said Aaron Kessler, a senior research analyst at Piper Jaffray & Co. The investment firm estimates Internet ad growth of about 30 percent during the third quarter, roughly on par with quarterly gains during the first half of the year.

Other Internet analysts weren't as overwhelmingly bullish as Kessler, but were still positive. They predict that online ad growth for the third quarter would cool slightly to the mid-20 percent range from the torrid pace of 30 percent or more during the first half of the year and 2005. That slight softening reflects a projected slowdown in overall ad spending due to a weakening economy.

A research report issued by Merrill Lynch analyst Lauren Rich Fine Wednesday reduced the estimate for overall U.S. ad spending growth to 4.7 percent from 5.1 percent in 2006. But it described the Internet as "the bright spot" within its downgraded overall advertising outlook. Merrill Lynch estimates Internet ad growth of 26.2 percent and 27.4 percent, respectively, for the third and fourth quarters.

Not surprisingly, Google is expected to lead the way in Internet advertising, with revenue growth of 72 percent--far outpacing rivals such as Yahoo and MSN-Microsoft. Google should continue to benefit from online ad spending trends that show 30 percent search advertising growth in the third quarter compared to 25 percent for branded formats, according to a separate research report released Thursday by Merrill Lynch analyst Justin Post.

The report also estimates that Google captured 60 percent of global search advertising in the third quarter, and will continue to gain share in search at Yahoo's expense.

Meanwhile, analysts view Yahoo's ad revenue slowdown as the result of mainly internal rather than external factors. "Yahoo's negative 3Q pre-announcement is likely to be indicative of more company-specific issues such as slowing branded ad share growth, affiliate weakness, and page view declines in specific Yahoo verticals," wrote Post.

And any financial boost from the launch of Yahoo's new Panama search engine won't show up until next year.

Still, Yahoo's ad woes can't be completely swept under the rug. "Yahoo contributes 18 percent to total U.S. Internet ad spending, so any troubles at Yahoo slice off some [revenue] from the whole pie," said David Hallerman, senior analyst at market researcher eMarketer. Last month, the firm predicted online ad spending growth of 26.8 percent in 2006, revised down from an earlier prediction of 33.2 percent.

Nor is Yahoo alone in facing uncertainty regarding Internet ad revenue. In a research report regarding Time Warner, Merrill Lynch cited AOL's shift from a subscription to an ad-based model as one of the biggest risks. "There remains significant uncertainty with regard to the long-term growth prospects for AOL's advertising business and we are not convinced of its ability to stay relevant in today's rapidly shifting online world," wrote Merrill analyst Jessica Reif Cohen. (Merrill Lynch still upgraded Time Warner to a "buy" rating, based mainly on the company's other divisions.)

In the short term, however, the report predicts that AOL may enjoy ad revenue growth of more than 37 percent in the third quarter, partly by taking share from Yahoo in search.

Online advertising services companies such as ValueClick, aQuantive and 24/7 Media are all expected to post a strong quarter, according to Piper Jaffray's Kessler. Unlike the Internet portals on which they serve ads, "they're diversified across a network of publishers so they don't rely on a single publisher site," he said.

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