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February 01, 2008

Microsoft’s bid for Yahoo!: What it means

by Charlene Li

Microsoft made an unsolicited bid to acquire Yahoo! for $44.6 billion, a 62% premium over the current stock value of the company. Yahoo’s board is looking at the deal. When rumors surfaced last May, Yahoo! quickly pushed back and said that it wasn't interested in being acquired. Things have changed a bit, to say the least.  Yahoo! had a change in leadership that hasn't resulted in a significant turnaround and recently announced large lay-offs.

In this post I'm going to talk about 1) the acquisition; 2) why this more than about search; and 3) the implications for the industry. 

The Acquisition

Back in May, I posted why a deal like this makes sense on paper and some of the challenges of a merger. I still stand by those thoughts, but wanted to expand on them a bit. My colleague Shar VanBoskirk has also posted about what this means specifically for interactive marketing.

- The synergies to compete -- against Google and MySpace. MSFT laid out the four areas of advantage, namely 1) scale economics of audience and advertisers; 2) R&D capacity; 3) operational efficiencies; and 4) emerging platforms like mobile, video, and social computing. These are very similar to the strengths that I laid out in May, but most interestingly, the area where they really need to catch up on is emerging areas like social computing. Despite early acquisitions like Flickr and del.icio.us by Yahoo!, and efforts like Windows Live Spaces, both players are woefully lacking in this area. They would have a beachhead with MSFT's investment in Facebook, but that is still just a strategic relationship - for now. A combined MSFT/Yahoo/Facebook deal at some point in the future could be the media company of the future.

- The messy reality of mergers. MSFT says in the letter that it tried to form a number of partnerships with Yahoo! which were rejected, meaning that they only way they could realize these synergies is through outright acquisition. But acquisitions are messy, ranging from trying to consolidate advertisers on one platform to figuring out what to do about competing brands like Yahoo!, MSN.com, and Windows Live. Cultural differences, geographic distances, and different technology platforms will also muck up things, making a merger highly distracting to an organization that needs to be focused on a highly competitive marketplace. And of course, Google won't be standing still and instead, will capitalize on advertiser and user confusion.

- Yahoo! will look for a savior -- like Google. Yahoo! is famously independent and as an organization, has held looked at Microsoft with disdain. We believe that they will do *everything* possible to avoid being acquired. Their most likely savior would be Google, in that Yahoo! would turn over all of its search advertising to Google in exchange for a guarantee. If Google was willing to pay $900 million for MySpace's search advertising, Yahoo! would get a huge premium. That would be enough cash to bolster Yahoo!'s efforts to reposition its efforts as a portal and display advertising powerhouse.

It's About More Than Search

Microsoft's long-standing interest in search -- and obsession with Google's dominance in it -- is the foundation for the acquisition. But we think that it's much more than that. Microsoft is interested in search because it provides a beachhead into businesses -- especially small and medium-sized ones who don't have a direct relationship with Microsoft.

That's Google real threat -- the ability to leverage today's search relationship into Google Domains and eventually, software as a service that could undermine Microsoft's long-term position -- and as Kyle McNabb and Rob Kplowitz point out, at risk is Microsoft Office's current dominant position. To that end, Microsoft is buying significant share with Yahoo!, not only from search users, but also search advertisers and other relationships via Yahoo! Store.

Second, it's the big, bad world of branding and display advertising that is clearly Microsoft/Yahoo!'s forte. Together, they have worked with the top brands online for more than a decade and have won the confidence of interactive agencies. They own top ad networks and Yahoo! has built relationships with publishers. As Shar points out, having scale allows them to delve deep into customer data and provides better targeting.

Implications Of An Acquisition For The Industry

I define industry pretty broadly, ranging from the media/advertising space to emerging platforms. A few thoughts:

- Technology redefines media. If the acquisition goes through, the two leading media companies online will be Microsoft and Google -- and at their heart, they are technology companies. I've long believed that the media business is about connecting marketers and to their audiences. And in this day and age, you need to have outstanding technology to do that. Where does that leave original content producers? Well, they need to take a hard look at their business and 1) make sure that they can create an audience with their content -- as well as aggregated content; and 2) trade-off the costs of fielding their own online ad sales force versus outsourcing it to ad networks that are likely better at aggregating and targeting ads to specific audiences.

- Social computing loves scale too. People go where their friends are -- note that MySpace and Facebook grew because of the network effect. With a combined audience, and the potential of leveraging their base of email and instant messaging users, they could overnight create one of the largest socially connected audiences online and become the foundation for an "open" social graph. And as I mentioned above, the acquisition of Yahoo! could well position Microsoft to make a bid for the darling of the moment, Facebook.
 

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Comments

Josh Bernoff

This is a defensive move. Microsoft is trying to defend itself from Google, not just in online services, but on its native turf of OS and applications. And yet, after this acquisition is done, Microsoft will still be on the defensive, and in the end Yahoo! cannot protect them.

This is a $44 billion insurance policy that won't pay off when it matters

Steve Mann

Excellent Analysis Charlene. Spot on!

Computer Consultants Kit

Charlene,

I find it very intriguing that you focus on the synergies in the social space so much.

It's well known how much advertising cash that MySpace and FaceBook are generating.

But historically, search advertisers have had problems with ROI, click quality, and transparency when it comes to crossing-over between pure search advertising and contextual advertising.

The messy reality of mergers also brings up an interesting issue. Microsoft has a generally good track record with integrating acquisitions into their fold. But both Yahoo! and MSN are literally a generation or two behind Google in their PPC platforms AND market share. Whether this merger/acquisition would help them catch up in any kind of meaningful timeframe, that's a tough challenge.

And Google bailing out Yahoo! to stave off Microsoft?

Possible, but I'm not sure I see that one in the cards. They did however used to feed organic search results years back.

This all should make for an interesting next several weeks in the IT/search space.

Thanks for some really well thought-out analysis on the implications.

Joshua Feinberg

Filiberto Selvas

I know this is off topic; but I stumbled onto this phrase and I kept thinking about it:

""""I've long believed that the media business is about connecting marketers and to their audiences. And in this day and age, you need to have outstanding technology to do that.""""

Yes; this is true. However lets never forget that technology eliminates the friction, and scale multiplies the impact… but It has to begin with the connection, and as we have seen so many times in so many botched attempts by so many vain companies: establishing that connection is not necessarily easy.. particularly for those of us that are in the position to deliver and offer services to many others whom we are so different from.

Let’s not assume that having the technology implies that the connection will be established.

Filiberto Selvas

Amadou M. Sall

OMG, will Flickr still be free :-)

Website Optimisation

If this goes ahead I would be very interested to see which paid search platform they go with. Pandora or Adcenter? Kaya Tugcu, Optimised Media

Michael Martinez

The search implications would be disastrous for end-users (searchers and Web publishers alike) if Yahoo! is acquired by either Microsoft or Google.

We presently have few choices in terms of relevance and presentation. Market metrics mismeasure actual search market share, over-reporting Google's dominance considerably on the basis of number of queries performed (metrics companies have begun looking at user experience in recent months, though).

As people become more frustrated with Google's declining relevance, they will turn more to other search engines or search alternatives (which are thriving in the social media sphere -- sites like StumbleUpon are now major traffic providers for many sites).

Microsoft has been growing its market share and if Steve Ballmer really has $44 billion to throw around then he can afford to wait until Microsoft fine tunes its way to a more competitive market space.

Eliminating Yahoo! will eventually drive people to use search-alternatives more often. Microsoft will increase its share for a while but that will shrink because neither Microsoft nor Yahoo! have a technology or interface to compete with Google.

If Google seizes Yahoo! they'll compensate for lost market share through other channels, eventually moving into the search-alternatives sphere (and they may already be working on that angle).

Microsoft's best bet would be to purchase StumbleUpon, DIGG, and a couple of other search alternative resources and combine them into a powerhouse that Google has not yet built a rival for.

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