Yahoo-Microsoft Deal Inevitable?

Is the Yahoo-Microsoft Deal Inevitable?  Ballmer said a deal between Microsoft and Yahoo! Inc. may still make economic sense for shareholders of both companies.  No need to review the already well-known history of this story.  Why is Microsoft waiting?  First, there is the Yahoo-AOL deal.  Second, is the DOJ investigation into the Google-Yahoo advertising deal.  Is this the end of an era?  “Do you Yahoo?” has been replaced with “Google-it.”  The DOJ has conducted literally tons of interviews these conversations have undoubtedly gone deeper than just the deal.  Finally, the DOJ has a solid understanding about why Google has a monopolistic path.

For Microsoft to compete in search they have to do something disruptive.  Buying Yahoo! only buys time.  The question is not will Microsoft buy Yahoo!.  The real question is what will Microsoft do after they buy Yahoo!.  Buying time is not much of a plan.  Microsoft will still be playing a losing gain.

 

Steve Ballmer said a deal between Microsoft and Yahoo! Inc. may still make economic sense for shareholders of both companies.  This not-so slip of the tongue at the Gartner conference in Orlando on October 16th of course sent Yahoo shares up during another one of the daily rapid cycling behaviors of the daily market performance.

 

Since the beginning of the year, Microsoft has been looking at Yahoo!  No need to review the already well-known history of this story – the first bid of $47.5 Billion and the second bid of $33 Billion.  Today, Yahoo! Has a Market Cap value of $16.5 Billion and if Microsoft were to re-engage in talks with Yahoo! they would most likely no longer bother looking at the totality of the company but rather a subset of just the search business. 

 

Why is Microsoft waiting – if they are waiting at all?

 

First, there is the Yahoo-AOL deal.  AOL reports earnings on November 5th.  So if there is any information to be revealed it may come out during that call.  Second, is the DOJ investigation into the Google-Yahoo advertising deal.  Microsoft has no choice but to wait and see how these two situations play-out based on how Yahoo! has responded to previous buy-out attempts. 

 

Carl Icahn’s appointment to the Yahoo! board was originally thought to be a stimulus to making a sale happen, but that has not been the case thus far.  Instead, the leadership remains in place and the core strategies remain largely unchanged.  Quarter-end results were received negatively last week and the company continues to erode in front of our eyes while a 10% RIF further indicates the downward spiral of this former tech-darling giant.

 

Is this the end of an era?  “Do you Yahoo?” has been replaced with “Google-it.”  Yahoo has historically demonstrated a poor acquisition strategy, falling short on implementation.  They have grown and stalemated their text advertising business, returning to a display advertising strategy rife with technology glitches in a market where advertisers are placing heavy bets on direct response rather than CPM. 

 

What does all of this mean?  The writing is on the wall – in big, bold, block letters.  Yahoo! has no clue what they’re doing any more.  Balmer will strike when the timing is right, if at all.  When will that be?  After DOJ finishes demonstrating that they have a mighty strong case. 

 

The DOJ has conducted tons of interviews on this deal and these conversations have undoubtedly gone deeper than just the deal.  While the DOJ may be focused on the potential of Google gaining an 80% stake in the search market, they are also having significant light shed on the ever-changing algorithm that forces everyone to change their technologies on an ongoing basis.  They are learning about the occurrence of price inflation on popular keywords which has been taking place even as advertisers decrease spend – indicative of unnatural pricing pressure within the auction.  They are learning about the industry-wide pressure being placed on distribution partners in terms of their sources of traffic – such as the arbitrage business – and the squeeze that is occurring with regard to Google no long paying for what they arbitrarily deem to be “suspect” traffic.  The DOJ is learning about exclusivity requirements placed on publishers that require only Google ads on pages, blocking other sources of ads from competing on the page. 

 

These are just examples of the domination business practices, which are commonly known within the industry and that are being brought to light for the DOJ.  I don’t think that any of these issues will come up now, with regard to the Google-Yahoo! deal, but the DOJ is getting heavily educated.  Which is about time!  What it does all mean is that the next time someone raises a red flag, which may be sooner than later, the DOJ will have a solid understanding about why there are issues and what the complaints reference.  And most important this exercise will position the DOJ well going forward with the right mindset for HOPEFULLY preventing the monopolistic avenue that Google is traveling.

 

So will Microsoft buy Yahoo?  Maybe.  Is it worth that much to Microsoft?  At the end of the day, Microsoft’s core business is the Office platform.  Not the operating system.  A huge portion of their revenues have been from Office for a long time.  Other LOBs add to that stream including advertising, search, XBOX and Vista, but Office carries the ball.  But Microsoft continues to declare that they want to compete in the Search realm but as the #3 player they have to do something disruptive to stay in the game long term. 

 

Buying Yahoo! only buys time.  It buys a degrading market share – both Yahoo! and Microsoft are losing share every month to Google.  They can look beyond Yahoo! and consider buying additional share from the remaining 10% that is not controlled by the big three engines, but all of that only buys more time from the inevitable trend.  ASK has some recognizable share – but 95% of their search ad revenues come from Google as well.

 

So I don’t think the question is so much will Microsoft buy Yahoo!.  I think the real question is what will Microsoft do after they buy Yahoo!.  Here are the most current share positions as provided by Comscore:

 

Google  62.9%
Yahoo  20.2%
AOL  4.1%
Microsoft 8.5%
Ask  4.3%

 

If Microsoft buys Yahoo! they will have 30% market share.  But again, that number will erode over time.  If Yahoo buys AOL, that only lifts Yahoo by 4% – not much of a gain.  Microsoft could still look to buy the combined Yahoo!-AOL search business – however unlikely – bringing them to 34%.  ASK combined into the equation would bring it to 38%.  But of course that will never happen.  ASK is tied up with Google and I can guarantee you that there is a clause that says IAC can’t sell ASK to anyone without Google’s approval.  You can bank on that one.

 

So again, what does Microsoft plan to do after they buy Yahoo! to stop the erosion.  Buying time is not much of a plan.  Unless there is some plan to go after the jugular that pinpoints the rapid growth of Google’s climb to dominance Microsoft will still be playing a losing gain.

 

Let’s get some conversations going on this one.

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