Yahoo 2006 Annual Report Download - page 50

Cost of revenues were as follows (dollars in thousands):
2004
(*)
2005
(*)
2006
(*)
2004-2005
% Change
2005-2006
% Change
Years Ended December 31,
TAC....................... $ 974,814 27% $1,561,737 30% $1,865,924 29% 60% 19%
Other cost of revenues.......... 367,524 11% 534,464 10% 809,799 13% 45% 52%
Cost of revenues ............ $1,342,338 38% $2,096,201 40% $2,675,723 42% 56% 28%
(*)
Percent of total revenues.
Cost of revenues for the year ended December 31, 2006 increased approximately $580 million, or 28 percent,
compared to the prior year. The increase included $304 million of additional TAC, as well as increases of
$75 million in server equipment depreciation and maintenance costs, $55 million in content costs, and $49 million
in amortization of developed technology and intellectual property rights acquired. Internet connection charges and
data center costs also increased by $36 million in 2006, compared to 2005.
The year over year increase in TAC of 19 percent in 2006 was primarily driven by our 22 percent growth in
marketing services revenue, higher average TAC rates and a product mix change toward revenue streams that have
associated TAC. The year over year increase in TAC in 2006 was also impacted by reduced TAC related to our
relationship with Microsoft, which completed the transition of its United States Search business in-house during the
year. The increase in depreciation expense and data center costs primarily resulted from our increased investment in
information technology assets. The increase in content costs was primarily from our expanded offerings some of
which required content for new and enhanced services on Yahoo! Properties including video, music, sports, and
games. The increase in the amortization of developed technology and intellectual property rights acquired resulted
from our continued investments in, and acquisitions of, businesses and technology. Increased Internet connection
charges and data center costs supported our growing audience of users, traffic, and new offerings on Yahoo!
Properties.
Cost of revenues for the year ended December 31, 2005 increased approximately $754 million, or 56 percent, as
compared to 2004. The increase included $587 million of additional TAC, as well as increases of $64 million in
content costs, $39 million in depreciation expense, $27 million in Internet connection charges and data center costs,
and $20 million in amortization of developed technology and intellectual property rights acquired.
Cost of revenues in 2006, 2005, and 2004 were 42 percent, 40 percent, and 38 percent of revenues, respectively. The
year over year increases reflected the additional TAC described above as well as additional expenses associated with
our continued acquisition of new technology and server equipment to support our expanded offerings and increased
traffic on the Yahoo! Properties.
We currently believe that cost of revenues will continue to increase in absolute dollars in 2007 compared to 2006.
TAC is expected to increase as our marketing services revenue increases and as TAC rates increase in the
competitive search market. Additionally, we expect to continue to increase our global audience of users and
offerings, which drive network usage and in turn higher Internet connection charges and data center costs. Further,
we expect higher costs related to the introduction of additional content for new and enhanced services.
Sales and Marketing. Sales and marketing expenses consist primarily of advertising and other marketing related
expenses, compensation related expenses (including stock-based compensation expense), sales commissions and
travel costs.
Sales and marketing expenses for the year ended December 31, 2006, increased approximately $288 million, or
28 percent, as compared to the prior year. The year over year increase was largely due to increases in compensation
expenses. Compensation expense increased approximately $252 million, including an additional $146 million of
stock-based compensation expense, compared to the prior year. The increase in stock-based compensation expense
was due to our adoption of SFAS 123R. In addition to stock-based compensation expense, the growth in
compensation expense was also attributable to an increase in our sales and marketing headcount as we expanded
our presence in certain territories to support our growing advertiser base. Year over year spending on marketing
40