GooHoo Makes Microsoft Go Boohoo

By Kurt Cagle
June 13, 2008

Yahoo! and Google announced June 12 that the two companies had agreed to the terms of an advertising and search partnership that will inject significant moneys into Yahoo!'s coffers while at the same time dramatically reducing both the likelihood of a Microsoft takeover bid in the near future and potentially staving off a shareholder revolt by financier Carl Icahn.

Under the terms of the agreement, Yahoo! agrees to run ads that are supplied by Google's AdSense (both Search and Content) in conjunction with Yahoo!'s own paid and internally generated search and advertising results - a non-exclusive agreement that gives Yahoo the ability to continue to maintain its own existing advertising relationships. In addition, Yahoo holds the option of including AdSense in other, non-search areas of their website, such as their travel and financial services sites, as well as its financial affiliate partners. The agreement will extend for ten years, broken into an initial four year terms followed by two optional three year terms at Yahoo!'s discretion.

On the same day, Yahoo also announced that they had broken off all talks with Microsoft concerning any whole or partial buyouts, after Microsoft declared four days before that the Redmond, Washington based company was not interested in purchasing all of Yahoo! even at the existing price, but was still open to purchasing the search and advertising portion of the web company. The chairman of the Yahoo! negotiating board, Roy Bostock and other investment partners concluded that such a purchase would have serious negative ramifications for Yahoo! and would not be in the interest of the company.

Beyond that AdSense deal, Yahoo and Google announced that they would work to merge their IM network, though the precise mechanics of this had yet to be worked out in principle.

Creation of an Ad Giant

While this deal does not announce a formal "merger" of the two companies, it nonetheless signals a profound shift in the online search world, and certainly increases the likelihood that the two companies will begin a more active partnership across a broad front of activities. While the two company cultures have tended to maintain an active competition, their physical proximity (their corporate headquarters are within a couple of miles of one another in Silicon valley) and similar cultural attitudes considerably open up the possibility that a merger may occur within a few years.

The obvious loser in this deal is Microsoft, and in particular gives Microsoft CEO Steve Ballmer a black eye for botching this particular deal so badly. Yahoo!, a vibrant company but one that no longer is seeing significant growth in the stock market or in ad revenues, still retains the number two position in terms of search engine activity and currently has the largest web presence of any company on the Internet.

Microsoft had hoped to acquire the search company in order to augment or replace its own fading Internet search presence (via live.com) and to re-establish a foothold in this vital sector, but a poorly executed buyout plan raised serious concerns among many of Yahoo!'s existing advertisers, investors and board members, sending Yahoo! stock on a roller coaster ride and left the company distracted from its core business.

Google's deal, moreover, unlike the purchase of 5% of operating stock in America Online two years ago, does not represent an outright purchase of Yahoo!, but rather provides a significant long term infusion of capital that will make it possible for Yahoo! to effectively stabilize its own business. Given the recent investments that both companies have made in areas such as social networking sites, media presentation and syndication infrastructures, this realignment means that the strategic "GooHoo" or "Yahoogle" will also block Microsoft from being able to compete effectively in the media space as well.

The single biggest obstacle to ratification of this deal is Congressional approval, as the combination of advertising services may be seen as a significant anti-trust violation. Short term, Yahoo! will also end up being vulnerable for perhaps a few additional quarters as speculators anticipating a buyout sell their options, but given the success of the Yahoo! board of directors in being able to thwart what was increasingly seen as a hostile takeover by Microsoft, it's likely that Yahoo's stock price should stabilize quickly, especially given that the online advertising market is expected to grow from US$40 billion in 2007 to US$75 billion by 2010.

Technical Implications

Beyond the immediate business ramifications, it is likely that Yahoo! will continue to move towards an open source/open standards model of development that has been ongoing for some years, and that was placed in jeopardy by the early Microsoft buyout possibility. Yahoo! has been developing a number of new technologies recently in both the web space (such as Yahoo! Pipes, intended to manipulate syndication feeds) and in the mobile arena (most recently the Yahoo! Mobile Development Platform).

With the Google deal it is also possible that Yahoo! will agree to integrate the Google Gears platform (a goal desired by Google for some time) in the development and deployment of offline applications. This is likely to give Gears a much needed boost in the marketplace, especially given that in terms of applications that may benefit from Gears, more of them are in fact in the Yahoo space than in Google.

Additionally, one particularly intriguing consequence of this as well is the announced integration of GoogleTalk and Yahoo! Instant Messenger services. Such an agreement already exists between Yahoo! and Microsoft, so at this stage its unclear whether that particular agreement still holds (perhaps leading to the unification of IM servers) or whether this will freeze out Microsoft from what's increasingly becoming a consolidated IM infrastructure centered around Yahoo!. Given that such IM integration also cuts across VOIP lines, it raises some interesting possibilities that Yahoo! and Google may also cooperate on the Android API.

A Painful Day for Microsoft

For Microsoft, there is no way that this can be spun as anything but bad news. Microsoft's interest in Yahoo! initially existed for a number of solid reasons - Yahoo! has a larger search presence than Microsoft and it has leveraged online advertising, the lifeblood of the consumer tech industry far more deftly than Microsoft has been able to date.

Moreover, while it's become increasingly obvious that Yahoo! would have been hurt badly as a completely separate entity, the Microsoft bid was intended either to become a part of Microsoft (and hence significantly strengthen a flagging Live.com presence) or become so badly weakened by the takeover attempt that it would be knocked out of the market.

Finally, one of the strongest imperatives that Microsoft faced was that Yahoo! could not end up becoming a part of (or even a strategic partner) with Google, as this would have all but sealed Microsoft out of the search market, barring a radical shift in technologies that don't appear likely.

Barring last minute Congressional action (which will happen, but probably will not amount to much), Microsoft has failed on all three counts. It has, of course, been debated hotly the degree to which Yahoo!'s brand loyalty would have held in the face of a Microsoft takeover, but the reality is that Microsoft is now in a position where it needs to seriously rebuild its public image and became far more innovative and attuned to shifts in consumer culture than the company has been to date.

One consequence of this is likely to be serious shareholder discontent with Microsoft CEO Steve Ballmer, who recently announced that he was not planning to retire for another ten years from that position. A strong Yahoo/Google alliance, however, seriously weakens Microsoft's position in all of the "foreward" facing areas - online advertising, online search, services integration and so on, even as other online service competitors continue to chip away at Microsoft's competitive advantage in the operating system market (Apple and Linux), office suites (too many to count now, especially as such suites become increasingly online/offline aware), database servers and so forth.

Microsoft is in no danger of going out of business, of course, and its revenues are still strong in most of its core areas. However, the company is increasingly become stymied in its efforts to move beyond its core proficiencies, and poor execution of actions such as the attempted takeover of Yahoo! are increasingly distracting it from performing in those areas where it does have its strengths.

Perhaps most galling to Microsoft is that Google comes out of all of this as the white knight, rescuing a competitor from the evil intentions of a thoroughly nasty villain. While this is not the case at all - the advantages for Google of Yahoo! are easily as significant as the advantages are to Microsoft (if not necessarily the same ones) - because the takeover was fumbled so badly, this incident could very well prove to be Mr. Ballmer's last hurrah.

Kurt Cagle is the site editor for xml.com and online editor for O'ReillyNews.


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