Rule Maker Portfolio
Here are the highlights of the third quarter (pro forma):
Now think about this for a moment: Cash increased by $111 million, while reported net income equaled only $15 million. Yahoo! even generated more cash than the $40 million of net income shown on its pro forma income statement. (Yahoo!, like many young companies, reports both "pro forma" and "as reported" income statements. The pro forma version leaves out the non-cash expenses, so that investors can get a better idea of the company's true economics.)
So, where did all the cash come from? Up-front payments by advertising customers is the key. During the quarter, Yahoo! added 350 new advertisers, bringing the total to 3,150. These customers purchase ad space from Yahoo! at prices ranging anywhere from a few hundred dollars -- for small buttons -- all the way up to tens of millions of dollars -- for prominent placement on Yahoo!'s top commerce pages, such as Yahoo! Shopping.
With advertising rates on the rise -- which was rumored during the quarter, and confirmed true on the conference call -- customers have an incentive to go ahead and pay Yahoo! now in order to lock in the current rates. When customers buy ad space in advance, Yahoo! gets the cash immediately, but recognizes it as revenue over time. Whatever amount that's not booked immediately as revenue sits on the balance sheet as "deferred revenue." At the end of Q3, Yahoo! had $72 million in deferred revenue. Again, this amount represents cash that's already been received, but not yet booked as revenue.
In addition to being paid in advance by customers, Yahoo! has also generated cash through stellar asset management. This quarter marked the 14th consecutive quarter of declining days sales outstanding (DSO). We can measure Yahoo!'s asset management by looking at the flow ratio. Since the beginning of the year, Yahoo!'s flowie has improved from 0.33 to 0.26. Those numbers are only approximate because the press release balance sheet isn't broken into current and long-term components, but the comparison is valid on an apples-to-apples basis. As I explained yesterday in the discussion of Pfizer, a declining flow ratio means that cash is flowing into a company.
Got that? Flowie up, cash flows out. Flowie down, cash flows in.
So for Yahoo!, excellent cash management for the past 14 quarters has meant steadily greater amounts of cash rolling into the company. Why? It's a combination of excellent financial management, and Yahoo!'s strong competitive position. Essentially, Yahoo! has a monopoly of eyeballs. And as CEO Tim Koogle said on the call, "Dollars always follow eyeballs." Websites like Marketwatch and theStreet.com and even The Motley Fool all count on Yahoo! to send users our way. Sites like these happily pay Yahoo! for those eyeballs. Make no mistake about it, Yahoo! has the upper hand versus all of its customers -- and that's a valuable position to be in.
Yahoo! is no longer just a Cash Prince; it has become a Rule Maker.
There's much more to say about Yahoo!'s business progress, but there's not enough time or space, so I'm going to post my conference call notes on the Yahoo! message board:
My Conference Call Notes
For more on Yahoo!'s quarter, check out today's Fool Plate Special. And for even more on Yahoo!, check out these past Rule Maker articles:
- Yahoo! -- Cash Prince
- Good Results at Yahoo!
- Yahoo! Financials
And to get the story from the horse's mouth:
- Yahoo! Q3 Earnings Press Release
- Yahoo! Q3 Conference Call