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Why Shares of Are Surging Today

What happened

Shares of Chinese web company (NASDAQ: SOHU) jumped Monday following a mixed second-quarter report. While Sohu missed bottom-line expectations, a revenue beat and strong guidance were enough to propel the stock 10% higher by 11:15 a.m.

So what

Sohu reported second-quarter revenue of $461 million, up 10% year over year, and about $26 million higher than analysts' average estimate. This growth was driven by a 17% increase in search advertising revenue and a 23% increase in online game revenue, which more than offset a 24% decline in brand advertising revenue. Growth in mobile traffic and the launch of a new mobile game drove the growth in the first two categories, while weakness in video and real estate advertising drove the decline in the latter category.

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Non-GAAP EPS came in at a loss of $1.85 per share, down from a loss of $1.62 during the prior-year period and $0.27 below analysts' expectations. Weakness in video advertising prompted a $45 million impairment charge related to video content costs, which dropped the brand advertising gross margin to negative 45%. Gross margin also declined in the search advertising business due to higher traffic acquisition costs.

Sohu Chairman and CEO Dr. Charles Zhang assured investors that the brand advertising business would improve next year:

Our brand advertising business performance was relatively soft, largely due to lackluster video ad sales. Nonetheless, for Sohu Video, we have been shifting our content focus to self-developed dramas. We expect the move to generate substantial cost savings and improve our bottom-line results in 2018.

Now what

While Sohu's earnings fell short, the company's third-quarter guidance beat analysts' expectations. Total revenue is expected to land between $480 million and $510 million, ahead of analysts' previous average estimate of about $475 million. Non-GAAP EPS is expected to be a loss of between  $1.00 and $1.25, straddling the $1.17 loss that analysts' forecast.

The brand advertising business is expected to remain weak during the third quarter, with the company expecting a year-over-year slump between 28% and 37%. But search advertising revenue and online game revenue is expected to more than offset that decline, growing by 39% to 45%, and 22% to 32%, respectively.

Investors will need to wait until next year to see much improvement in the brand advertising business, but the rest of Sohu is performing well enough to drive revenue higher.

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Timothy Green has no position in any stocks mentioned. The Motley Fool recommends The Motley Fool has a disclosure policy.