JACKSON SECURITIES, LLC

Research for the Prudent Investor

Date 7/19/06 Yahoo! (YHOO): Downgrade to

Current Price $32.24
“HOLD” recommendation
52WK HI $43.66 • Industry: Internet Services
52WK LO $28.60 • YHOO: NASDAQ; $32.24
EPS (TTM) $1.24 • 12-month price target: $33.00
Shares Outstanding 1.4B Buy initiated 7/14/06: $32.23 Downgrade to Hold 7/19/06:
Market Cap. $47B Target: $37.00 $32.24 Target: $33.00
Dividend Yield NA
Price/Earnings (TTM) 26.8X
Price/Sales (TTM) 8.2X
EV/Revenue (TTM) 7.9X
EV/EBITDA (TTM) 25X
EBITDA (TTM) $1.77B

Brian Bolan Company Description

Yahoo! is an internet search and technology platform for all media that
Research Analyst has established itself as the leader in its growing market. Free downloads
Technology of applications, tools and other media based products have helped to
broaden the idea of Yahoo! from more than just a search engine to a
Jackson Securities, LLC
300 S. Wacker Dr., Suite 2450 destination site and platform for new media delivery.
Chicago, IL 60606
Valuation and Recommendation:
Ph: (312) 253-0578 We believe that investors will no longer afford a large multiple to a growth
Fax: (312) 986-0560
company that isn’t exhibiting all the signs that a normal growth company
bbolan@jacksonsecurities.com
shows. The push back of Panama into the fourth quarter, lack of growth
in registered users and the already high expectations for the second half
of the year combine to make the idea of building a position Yahoo! a bad
one at this time. We recommend investors HOLD shares of Yahoo!.

Jackson Securities, LLC seeks to do business with companies covered in its

research reports. As a result, investors should be aware that the firm may have a
conflict of interest that could affect the objectivity of this report. Investors should
consider this report as only a single factor in making their investment decisions.
Please also refer to the important disclosures found on page numbers 7 and 8.
Analyst Certification is found on page number 7.
Yahoo! (YHOO)

Downgrading Yahoo! to HOLD from BUY

Even though Yahoo! didn’t miss earnings, we believe that a

number of potential catalysts have been removed and investors will
likely not prosper if they continue to build a position in the stock
over the next 6 months. We are changing our rating on the stock to
HOLD.

Project Panama, the code name for the improvement in search

monetization has been delayed from the third quarter into the latter
half of the fourth quarter. This is critical to the valuation of the
stock, as many investors had expected this update to be available
for the all important 4th quarter. As far as retail and other
commerce goes, so goes the web and advertisers. Not having this
product in place in the third quarter will make a positive earnings
surprise in the fourth quarter a very slim possibility.

The potential for growing market share is no longer the positive

catalyst we thought it could be. Management noted on the
conference call last night that “we do take comfort in is that the
underlying core search product to consumers is doing so well and
at least maintaining or, it looks like it was gaining slight share”
relative to the industry as a whole. We had hoped that there was a
more significant share gain that could be exposed, but even
mentioning the word “maintaining” decreases those chances.

First the good news

Yahoo! Answers showed strong growth and excellent momentum

in its early stages. Users are asking questions ranging from
mundane idiosyncrasies to some of the greatest questions of our
time. Stephen Hawking and Bono have both helped stir this pot
with the more active questions.

We were pleased with the expansion of the mobile efforts with the
strategic partnership with Hutchison 3 Group, a global mobile
broadband operator. This is a very positive development in a
segment we believe will be key to Yahoo! and all internet
companies in the coming 2-3 years.

Graphic advertisements seems to be gaining traction with

advertisers and the volume growth in this medium is looking to

JACKSON Brian Bolan 2

SECURITIES, Research Analyst – Technology
LLC
Yahoo! (YHOO)

grow at 20% or more in the coming quarter. Yahoo! also noted

that of the top 200 advertisers in their network, graphic
advertisements are likely to grown between 35%-40%. This
implies a good amount of growth from a developing business line.

Earnings

Earnings met our expectations of $0.11 per share, but revenue was
just slightly below our estimate of $1.13B. Following press
releases that the World Cup had generated extra traffic to Yahoo!,
most investors had expected the company to beat the top line.
Other areas of concern were the high level of expense in the
quarter, including a sales and marketing number that grew 33%
from the year ago period.

With the expense of stock options, investors are getting a better

picture of how companies are rewarding their employees. Yahoo!
noted on their conference call that rewarding their employees with
stock options was yielding positive results and efficiency gains.
The company spent $100M on stock based employee
compensation in the quarter, or roughly $9,500 per employee.

Click Fraud

Click fraud continues to wreak havoc on search engines and

Yahoo! is no exception. On the conference call yesterday, CEO
Terry Semel stated that Yahoo! believed they had the best click
fraud prevention practice in the business. This is a major claim,
and likely to draw the ire of those who purport this less than legal
practice.

Recent reports that we have seen are putting the number of

fraudulent clicks at about 14% of all clicked advertisements. We
believe that this number is very close to the true number, but it is
very difficult to come to the actual number. Over time, the
chances of click fraud growing seem to outweigh the chances of
click fraud fading off into the sunset. We believe that this problem
will persist and that even though its an industry wide issue, Yahoo!
will likely bear the brunt of headline risk for the foreseeable future.

JACKSON Brian Bolan 3

SECURITIES, Research Analyst – Technology
LLC
Yahoo! (YHOO)

New Risks and former Catalysts

Certainly new risks include concentrated efforts by fraudulent

clickers to show up the company that stated they had the best click
fraud detection and prevention. This could cost the company more
than just revenue, but respect and ultimately customers. We
believe that brash statements like that will not be rewarded by
investors, but rather find their ways into the ears of the less
scrupulous.

The delay in the search monetization upgrade is one of the main

reasons for the downgrade, but it also carries with it a significant
future risk as well. Further delays would be met with severe
multiple retraction and subsequent decline in the share price.

With search not performing as well as we hoped, there is a chance

that Google might have taken even more share from Yahoo!. We
will get a better grasp on that idea tomorrow when Google reports
its earnings. The delay in the upgrade from Yahoo! will also serve
to weaken its competitive position in the struggle of #1 vs. #2 in
the search space.

The lack of growth from registered users is an ominous sign.

Growth companies that aren’t exhibiting growth will undoubtedly
lose growth investors. As we saw with eBay in early 2005 when
the growth had stalled, shares dropped, and did so by a large
amount. We note that there is a large gap between where growth
investors decide to sell and value investors begin to buy.

JACKSON Brian Bolan 4

SECURITIES, Research Analyst – Technology
LLC
Yahoo! (YHOO)

Valuation

These days, investors tend to shoot first and ask questions later.
The is evidenced in the fact that the stock sold off some 14% in the
after hours market following the earnings release even though the
company made the consensus earnings estimate and issued inline
guidance for the third and fourth quarters of this year.

At this time, we are not making any changes to our year end
earnings estimate of $0.53 per share. That said, we believe that the
market will no longer afford such a large multiple for share of
Yahoo! and we are cutting our target price from $37 to $33, as we
believe a more tempered multiple of 62x this years earnings is
warranted.

We believe that investors will no longer afford a large multiple to a

growth company that isn’t exhibiting all the signs that a normal
growth company shows. The push back of Panama into the fourth
quarter, lack of growth in registered users and the already high
expectations for the second half of the year combine to make the
idea of building a position Yahoo! a bad one at this time. We
recommend investors HOLD shares of Yahoo!.

JACKSON Brian Bolan 5

SECURITIES, Research Analyst – Technology
LLC
Yahoo! (YHOO)

Yahoo! Income Statement ($ in millions, except per share)

Q2'05 Q1 Q2E Q2A YOY QOQ % from E
Marketing Services, Gross 1,094.3 1,380.9 1445 1386 27% 0% -4%
Less: TAC 377.9 479.4 505.75 453 20% -6% -10%
Marking Services, Net 716.4 901.5 939.25 933 30% 3% -1%
Fees 158.7 186.2 200 190 20% 2% -5%
Total Net Revenues 875.1 1,087.7 1139.3 1123 28% 3% -1%
Gross Revenues 1,253.0 1,567.1 1645 1576 26% 1% -4%

Cost of Sales 108.0 176.9 165.2 193 79% 9% 17%

Gross Profit 767.1 910.8 974.1 930 21% 2% -5%

Operating Expenses
Sales and Marketing 246.4 292.3 307.6 325 32% 11% 6%
R&D 125.5 179.9 193.7 208 66% 16% 7%
General and Adminis. 81.4 97.9 103.7 131 61% 34% 26%
Amortization 41.4 30.9 50.0 34 -18% 10% -32%
Stock Comp 10.9 108.6 100.0 100 817% -8% 0%
Total Op Expenses 505.7 709.6 754.9 798 58% 12% 6%

Operating Income 261.4 201.2 219.1 229 -12% 14% 5%

Interest Income & Other 979.7 35.4 36.0 36 -96% 2% 0%

Pre-Tax Income 1,241.1 236.6 255.1 265 -79% 12% 4%

Taxes 515.9 109.9 111.0 122.7 -76% 12% 11%

Equity Earnings 33.1 26.4 27.0 21.6 -35% -18% -20%

Minoritiy Interest (3.7) (0.3) (0.3) -0.3 -92% -6% -6%

Net Income 754.7 159.9 170.8 164 -78% 3% -4%

GAAP EPS $0.51 $0.11 $ 0.11 0.11 -78% 1% -2%

Fully-Diluted Shares 1,484.2 1,493.3 1,503.3 1476.6 -1% -1% -2%

JACKSON Brian Bolan 6

SECURITIES, Research Analyst – Technology
LLC
Analyst Certification
I, Brian Bolan, hereby certify that the views expressed in this research report accurately reflect my personal views
about the subject securities and issuers. I also certify that no part of my compensation was, is, or will be, directly or
indirectly, related to the specific recommendations or views expressed in this research report. I may be
compensated in part based on the overall profitability of Jackson Securities, LLC, which includes earnings from
investment banking and all other aspects of the firm’s business.

Important Disclosures
Disclosure of Conflicts of interest:
Neither Jackson Securities nor any of its publishing analysts or their immediate family members has a position in the
securities described herein.

Compensation:
• The research analyst has not received compensation based upon investment banking revenues or from the
subject company in the last 12 months.
• Jackson Securities has not in the last 12 months managed or co-managed a public offering of securities,
received compensation for investment banking services from the subject company or any compensation for
products or services.
• Jackson Securities does not expect to receive or intend to seek investment banking compensation from the
subject company in the next 3 months.

Position as Officer or Director:

Neither the research analyst nor a member of his/her immediate household is an officer or director with the
company/companies mentioned in this report.

Market Making:
Jackson Securities does not make a market in this stock
Explanation of Ratings:
Buy - Expected 12-month absolute performance of +10% or higher
than the market price at which time the rating was issued.
Hold - Expected 12-month absolute performance of +5% to –5% from
the price at the time the rating was issued.
Sell - Expected 12-month absolute performance of –10% or lower than
the market price at which time the rating was issued.

Distribution of Ratings:
Jackson Securities, LLC has a distribution of ratings among its coverage universe as follows:
Buys – 65.52% (38 of 58 active recommendations)
Holds – 31.03% (18 of 58 active recommendations)
Sells – 3.45% (2 of 58 active recommendations)

Jackson Securities has provided investment banking services within the previous 12 months with the following
percentage of the companies they have rated:

Buys – 2.64% (1 of 38 active recommendations)

Holds – 0% (0 of 17 active recommendations)
Sells – 0% (0 of 2 active recommendations)

Risks: General economic conditions, economic slowdown/recession, adverse industry news.

Disclaimer: This communication is neither an offer to sell nor a solicitation of an offer to buy any securities
mentioned herein. This material should not be construed as an offer to sell or the solicitation of an offer to buy any
securities mentioned herein in any jurisdiction where such an offer or solicitation would be illegal. We are not
soliciting any action based on this material. It is for general information only, and it does not constitute a personal
recommendation or take into consideration the particular investment objectives, financial condition or financial needs
of any clients. Before acting on any advise or recommendation in this research report, clients should consider seek
professional advice. Past performance is not a guide to future performance. Future returns are not guaranteed, and
a loss of original capital may occur.
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guarantee its accuracy or completeness. Any opinions expressed herein are statements of our judgment on the date
appearing on this material only and are subject to change without notice. We endeavor to provide updates on a
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Brian Bolan
Research Analyst – Technology