The curtain on the Internet's third-quarter earnings season comes up Tuesday, and many investors are expecting the first act --



-- to start it off with a note of tragedy.

In past quarters, Yahoo!'s earnings have been taken as a bellwether for the Internet sector as a whole. But this quarter, because most believe its obstacles are endemic to the company, that's not so much the case.

A weak Yahoo! report could even boost expectations that


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will have a strong quarter, because Google is most likely to profit from Yahoo!'s problems.

Analysts surveyed by Thomson/First Call are calling for an 11-cent-a-share profit from Yahoo! in the quarter, flat with second-quarter profit and down from the year-ago figure of 14 cents a share.

The consensus estimate for net revenue, excluding the money it shares with its search partners, is $1.14 billion, which would mark a 23% increase from the same quarter a year ago.

Now, revenue growth above 20% isn't bad, even if net income is down.

But this is Yahoo!, the 10-year-old Internet company that's already a legend and one of the few Internet players besides Google that, at the beginning of the year, was expected to see a robust 2006.

Instead, 2006 has turned out to be a disappointing one for the company. Google's share of the search-related ad market seemed to be growing, while Yahoo!'s stagnated.

Yahoo! had promised a powerful counterpunch with its Project Panama, a smarter search algorithm.

Panama reportedly took two years and tens of millions of dollars for what one analyst predicted would immediately boost search revenue by 20% when it was rolled out in the summer.

But when Panama's debut was pushed back to early next year, Yahoo!'s stock dived.

Worse, some advertisers saw better returns on investments in search ads and shifted money away from branded advertising, a domain that Yahoo! was supposed to rule.

At the same time, smaller startups that outmaneuvered Yahoo! on the social-networking front made inroads into branded advertising with lower-priced ads targeting a young audience.

That competition led many investors to fear that Yahoo! was losing its edge, a concern bolstered last month when CFO Susan Decker

warned that third-quarter revenue would come in at the bottom half of the $1.12 billion to $1.23 billion guidance range.

Yahoo! closed a jittery trading session on Monday at $24.18, down 1%, but above $23.57, where the stock dipped on Friday.

That Friday nadir was the lowest Yahoo! has traded since March 2004.

As the bad news for Yahoo! mounted, analysts scaled down their estimates for the company.

The consensus is now for a 47-cents-a-share profit for 2006 and 64 cents a share for 2007.

If those analysts are right -- that is, if their newfound bearishness isn't underestimating the possibility of a strong recovery in the next five quarters -- Yahoo!'s stock is still valued at 51 times its projected 2006 earnings and 38 times its projected 2007 earnings.

That seems pretty high for a stock that is down 38% on the year.

So dark is the mood on Yahoo! right now that if it delivers surprisingly good news instead of the bad news that's expected, it could turn into quite a windfall for Yahoo! bulls who bought the stock at its recent lows on their faith in the company's longer-term prospects.

What could that good news be? Given Decker's recent revenue guidance, it's unlikely to come from third-quarter performance.

Instead, it could come in reduced costs for coming quarters -- Yahoo!'s decision to

shut down its offices during year-end holidays suggests it's serious on this front.

And a surprise could come from news on Project Panama. Any word that the new search technology is ahead of schedule would lift a cloud from over the company.

"The launch of 'Panama' and the seasonally strong 4Q should serve as catalysts medium-term," writes Youssef Squali, a Jefferies analyst, who maintained a buy rating despite lowering his estimates and target for Yahoo! last Thursday. "Investors with a horizon of at least six to 12 months should build positions ahead of these events."

Jefferies has no underwriting relationship with Yahoo!

On the other hand, another delay could sour investors further.

The original Panama pushback, coupled with the lowered guidance, left many questioning management's ability to execute.

Finally, Yahoo!'s numbers could offer evidence that it's quietly building market share in search after years of erosion. Caris analyst Tim Boyd, who had been skeptical about Yahoo!'s growth in branded ads, now says, "Yahoo! appears to be making good progress toward reversing a multiyear trend of search-share losses to Google."

Boyd's reading of search-market trends makes him suspect Google's share of search queries may be peaking.

"The market's frustration with the delay in Project Panama is obfuscating some impressive progress" at Yahoo!, he writes, "progress that is being made even


Panama is officially launched."

The tension built up around Yahoo!'s stock is likely to turn any surprises from the company's earnings report or guidance into volatility.

Deutsche Bank says Yahoo! options pricing suggests the market is expecting a 9% move in Yahoo! shares around the earnings announcement.

Whether up or down is up to Yahoo! now.