Marissa Mayer and Mark Zuckerberg had similar problems last week but gave Wall Street starkly different answers. And the choices the CEOs of Yahoo and Facebook made speak volumes about their companies’ futures.
Both are sitting on huge piles of cash—Mayer from Yahoo’s $40 billion stake in Chinese e-tailer Alibaba, and Zuckerberg from the $11.2 billion stash generated by Facebook’s accelerating operating cash flow, which reached $5.5 billion last year. Yahoo is taking a conservative path, essentially giving the Alibaba windfall back to shareholders by spinning the stake off into a separate company, along with an undisclosed Yahoo operating business.
Meanwhile, Facebook is putting the hammer down: Zuckerberg plans to boost Facebook’s operating spending by 50 percent to 65 percent this year, pushing R&D spending as high as $4.4 billion to accelerate development of everything from Facebook’s search engine products to its video advertising business.
That one Web giant is playing offense, while the other is playing defense reflects the age and culture of their companies, as well as the opportunities they have, said Josh Spencer, manager of T. Rowe Price’s $1.6 billion Global Technology Fund. It’s also a result of the sharply lower trust Wall Street has in Yahoo, where Mayer has struggled to turn around the company’s core search and media businesses while making little headway in convincing investors that its $1.1 billion 2013 acquisition of microblogging site Tumblr is successful enough to make much difference, he added.
“With Facebook, the market is more willing to give them the benefit of the doubt,” that spending now will pay off later, Spencer said.
That difference in trust is partly about each company’s stock price. Facebook stock has marginally declined in the past three months in line with the tech sector performance, but its shares have tripled since mid-2013. Meanwhile, Yahoo’s recent run, driven by the value of Alibaba stake after the e-tailer’s 2014 IPO, swiftly has turned into a double-digit percentage drop since hitting a mid-November 52-week high.
Facebook has had a kind of golden touch with its big initiatives lately, especially a reversal of fortunes in its mobile-advertising business. Mobile’s share of Facebook’s total ad revenue has hit 69 percent, triple what it was in 2012, as 2014 company-wide sales neared $12.5 billion. Other new ad platforms are also zooming: The number of videos watched on Facebook tripled between the third quarter and the fourth to 3 billion, driven by the World Cup and the ALS Ice Bucket Challenge and raising hopes that Zuckerberg can cash in anew on video advertising, which commands higher prices than most other Web ads.
“Look how far these guys have come,” Sterne Agee & Co. analyst Arvind Bhatia said. “Who would have thought in 2012 that they would do $10 billion in revenue from mobile, when they had no mobile strategy.”
“Facebook for Instagram is like EMC buying VMWare or Google buying YouTube—fantastic. Yahoo and Tumblr are more destined for, ‘Well, that money’s gone.'”
On the other hand, RBC Capital Markets analyst Mark Mahaney cut his estimate of 2015 earnings before interest, taxes and noncash charges for Yahoo’s remaining businesses last week by 10 percent, to $1.21 billion, citing declining market share in both search and display advertising. Yahoo’s sales dipped 1.3 percent in 2014, to $4.62 billion.
“Yahoo is a deteriorating platform,” Mahaney said. “It’s very hard to turn around, and if you can’t, the right strategy is to be conservative” and return the Alibaba money to shareholders.
At bottom, Wall Street’s trust in each company may boil down to the progress of two billion-dollar deals, done a year apart, Facebook’s 2012 deal to buy photo-sharing network Instagram, followed by Yahoo’s Tumblr deal.
Neither company discloses much detail about how much cash its new unit is bringing in, but analysts believe Instagram is thriving while Tumblr struggles, Spencer said. Instagram has 300 million users and is essential to Facebook’s video push, as well as connecting it to a younger demographic that some had thought was cooling on Facebook until it began its push in mobile and video, said Bhatia. Mahaney estimates that Instagram is now worth $10 billion, based on Facebook’s market cap of $212.5 billion.
“Facebook for Instagram is like EMC buying VMWare or Google buying YouTube—fantastic,” Spencer said. “Yahoo and Tumblr are more destined for, ‘Well, that money’s gone.'”
Tumbling into growth?
Yahoo CEO Marissa Mayer is painting a much different picture of Yahoo’s push into mobile, social and video advertising than analysts do. Yahoo’s mobile revenue is accelerating and now growing faster than the rest of the industry’s, she said on a conference call with analysts last week.
Its emerging businesses, a mélange of mobile, video, social and native advertising that the 39-year-old CEO refers to by the acronym MaVeNS, generated $1.1 billion in 2014 sales, double the year before, Mayer noted. She also argued that Tumblr had passed Instagram in its total number of users late last year. At the same time, she conceded that Yahoo’s traditional display-advertising business is continuing to shrink.
“The core of Yahoo’s business is returning to health and stability and, we believe, growth,” Mayer said. The 13 percent decline in adjusted 2014 earnings stemmed from Yahoo’s own reinvestments in the MaVeNS strategy, Yahoo CFO Ken Goldman said.
But analysts aren’t buying. If Tumblr were making a big difference, it should be showing more in the company’s overall numbers, Mahaney said. Across Yahoo, sales actually fell about 1 percent for both the fourth quarter and for all of 2014.
“There’s no evidence Tumblr has worked yet, but it’s almost impossible to tell from the outside,” Mahaney said. “If it were working better, they would make more disclosures.”
Becoming a big spender
Facebook doesn’t give out granular numbers about Instagram either, but the company’s overall success has the Street willing to accommodate Zuckerberg’s ambitions, up to a point.
Several analysts wrote approvingly last week about Facebook’s decisions to slightly reduce its guidance for how fast it will boost spending this year, Bhatia said, because it gave them a clearer sense that management has a plan and isn’t just tossing money around. He said it will take two to three years before the success or failure of this year’s investment surge becomes clear.
“The difference between 65 percent and 70 percent is just how fast they can hire,” Bhatia said. “But they’re addressing a $500 billion market, with 1.3 billion people on Facebook and 700 million on [Facebook-owned instant-messaging service] WhatsApp, and they need infrastructure to support all that.”
The worry is that Zuckerberg, 30, and his team won’t be demanding enough in deciding which projects are promising enough to fund, or tough enough on fat elsewhere in the budget instead of pumping fresh money into hiring engineers, Spencer said (his fund doesn’t own Facebook). He thinks Yahoo will eventually make small acquisitions to try to build a new core, but without dramatic deals.
“I’m more convinced that Yahoo’s move is correct, while Facebook’s is what it is,” he said, pointing to operating profit at Facebook that narrowed by 14 percentage points in the fourth quarter, measured under formal accounting principles rather than the pro forma numbers analysts most often use. “Usually with companies of this size and scale, if their margins start going down, it’s not a good sign. I’ve been wrong so far, but this is just getting started.”
But Facebook may have learned the opposite lesson from its slow start on mobile, which caused the stock to plunge in the months after its 2012 IPO, Mahaney said. Back then, Facebook was knocked for spending too little to make sure it hit the next big market—a misstep he said shoved both eBay and, yes, Yahoo from their places among tech’s elite.