Falling Ad Revenue Dims Homestore's Prospects

Long heralded by Wall Street as one of the few survivors of the dot-com shakeout, real estate Web site Homestore.com must start providing some convincing answers to investors about its sudden, sharp decline in advertising revenue.

On Thursday, the Westlake Village, Calif. company posted a whopping net loss of $106.6 million, or $0.96 per share. On a pro forma basis, the company posted a $0.06 per share loss, or $6.9 million — double Wall Street’s loss expectations, according to First Call/Thompson Financial estimates.

Advertising revenue represented $28.5 million of Homestore’s total revenues for the quarter — a decline of 44 percent from the previous quarter.

Furthermore, the company cut future guidance, anticipating a pro forma loss of about $0.30 to $0.38 per share. Wall Street had expected a fourth-quarter profit of a penny per share.

The news comes after several quarters of being pegged by analysts as one of the industry’s most recession-resistant players — in March, Goldman Sachs, for one, upgraded the stock to its highest rating, calling it the “closest to a defensive play in the Internet sector.”

Additionally, over the past 17 months Homestore’s stock price had fluctuated between $20 and $40 per share, defying the precipitous declines associated with most dot-com stocks. (The stock finally began slipping in late August.)

During the call, chairman and chief executive Stuart Wolff also broke the disconcerting news that Homestore.com is currently in a dispute with AOL Time Warner over a multi-million marketing agreement from last year — a situation that’s unlikely to improve after the company’s missed earnings report, since the deal is heavily dependent on Homestore’s stock value.

The arrangement called for AOL to promote and drive traffic to Homestore.com, in return for 3.9 million shares of HOMS stock, worth about $90 million. Unless the value of that stock stayed above a certain, unspecified level throughout the life of the deal, it called for Homestore.com to shell out cash payable through a $90 million letter of credit.

Now, evidently, AOL wants its money, although Wolff said the two parties are in talks. (At press time, HOMS was off 40 percent from its previous close of $4.99 per share.)

How Homestore came to such a troubled state so late in the game — and why its revenue decline happened so suddenly — raised prickly questions that executives hurried to address during a conference call with analysts and investors on Thursday.

“We were sheltered from much of the early softening, primary due to several multi-year multi-million dollar relationships we had established,” Wolff said during the call. “The agreements gave us a solid base of ad revenue and confidence that we had the ability to power through a short downturn, and we expected the downturn in media to end by the end of 2001.”

But this quarter, Wolff said the company for the first time began seeing shorter-term contracts and longer signing times. That effect was compounded by events relating to the Sept. 11 terrorist attacks, which he said caused “pending contracts [to] not get signed, and some of our larger, expiring contracts … not renewed.”

Specifically, multiyear contacts with Wells Fargo and Web finance firm Dorado.com — representing more than $50 million each — were not renewed during the quarter, Wolff said. A third major advertiser, GMAC, renewed only a small portion of its earlier advertising commitment.

“As a result, our advertising pipeline is extremely limited today, and we do not believe a substantial recovery is likely in 2001 or 2002, given the current macroeconomic environment,” he said during the call. “We are reducing our forecast for advertising revenues … and are scaling back our cost structure accordingly.”

Whether the markets will buy the company’s story is another question altogether. In a research note, former Internet bull Henry Blodget of Merrill Lynch wrote that Homestore “now has a credibility problem,” and that the company’s attribution of its advertising shortfall largely to Sept. 11 “remains implausible, in our opinion.”

At any rate, the company said it is also taking steps to cut costs, and boost subscription and professional services revenue. A week ago, Homestore restructured its operations and announced an expense-reduction plan that would cut $159 million annually, and help it “move away from online advertising,” Wolff said on Thursday.

Nevertheless, he added that the company still had faith in the Web advertising model and advertisers’ eventual return to the site.

“It is just a question of when,” Wolff said.