Microsoft, Yahoo face many hurdles to successful merger
SEATTLE -- Launching sporadic strikes at starship Google goog got Microsoft msft and Yahoo yhoo nowhere.
So on Friday, Microsoft let loose a quantum blast across Google's bow: an unsolicited $44.6 billion bid to acquire Yahoo.
The proposed merger brims with potential. Yahoo would bring legions of loyal users of its Internet e-mail, chat, search, news, shopping and dating services. Microsoft would contribute engineering prowess and its deep presence in home PCs and corporate servers.
As allies, the tech titans could leapfrog Google to the budding sweet spot of the Internet advertising galaxy: display ads on popular websites. By joining forces, the companies would reach 86% of U.S. Internet users and control 59% of the online display ad market, according to Nielsen Online.
"If Microsoft and Yahoo join forces, it will be the most important event in the Internet industry this year, without a doubt," says Ken Cassar, analyst at Nielsen Online.
Yet black holes abound.
Google remains solidly entrenched as the leader in the current sweet spot, search advertising, commanding a 78% market share, worth $11.5 billion a year, says Jeffrey Lindsay, analyst at Sanford C. Bernstein. Yahoo, by comparison, has an 11% share, worth $1.6 billion.
If the deal is consummated, Google clearly must respond. But it can afford to move methodically. Corporate mergers are intrinsically messy. And this one is rife with looming deal breakers.
The merged "YahooSoft" could be thrown off course by a clash of corporate cultures, antitrust hurdles, or the possibility that the flight plan — set primarily by forceful Microsoft CEO Steve Ballmer — is wrong-headed to begin with.
"Although synergies are certainly great, the merger raises the question of how effectively they'll be able to continue operating during their integration," says Andrew Frank, research vice president at Gartner.
Yahoo says its board of directors will evaluate the proposal but offered no timetable for a decision. Given the steep premium Microsoft is offering — $31 a share, a 62% premium over Yahoo's share price the day before the offer — competing bids are unlikely, though not out of the question, says Kevin Lee, founder of search consultants Didit website. Yahoo's vice chairman and former CEO, Terry Semel, abruptly resigned late Thursday. Yahoo has declined comment.
The Yahoo factor
Microsoft's bold gambit comes at a wrenching time for Yahoo, an Internet pioneer that has been unable to convert its considerable online assets into a successful business model of late.
Despite, or because of, its broad spectrum of services, Yahoo has been hammered on multiple fronts by Google (in search), AOL (instant messaging), MySpace and Facebook (social networking), as well as other categories. All the while, its management team has been dinged by analysts for moving too cautiously.
The stress has been reflected in Yahoo's slackening display advertising revenue and its declining share of the online search market. The slumping company reported a steep drop in fourth-quarter profit, plunging its stock to a four-year low, and announced 1,000 layoffs last week. Management also conceded its turnaround efforts would take at least a year.
In what may play out as a defining moment for Ballmer, Microsoft is showing the steely resolve that was in short supply at Yahoo under Semel, tech analysts say. Ballmer has a chance to step fully out of the shadow of his mentor, company co-founder and Chairman Bill Gates, as Gates moves full time into philanthropy.
Yahoo needs buoying. Its inability to acquire YouTube — as Google did — and its fruitless pursuits of Facebook and MySpace deprived it of valuable properties in fledgling markets. Dalliances with eBay and Google — and even Microsoft a year ago — also went nowhere. "You grow in Silicon Valley by taking calculated risks, not standing still," says Lindsay.
Combining Microsoft's and Yahoo's similar online services, including search, e-mail and instant messaging, could reinforce both, says Nick Patience, analyst at The 451 Group, a market research firm.
The chief motivation, however, is dominance of the $40 billion online advertising market, which Google holds sway over. "This deal is mainly about advertising, mainly search-based advertising," Patience says. "It combines the second (Yahoo) and third (Microsoft) players in the market to take on No. 1, Google. This brings Microsoft a profitable advertising business, something it has not managed to achieve."
Yahoo lost its earlier laser focus after it became sidetracked by a foray into creating original content as a traditional media company the past few years, says Ali Diab, former vice president of product management at Yahoo, where he oversaw local search and mobile technologies until late 2006. Before that, Diab was at Microsoft.
"Microsoft is a strong traditional software-development company. It can bring organizational and technology discipline to Yahoo, which was missing," says Diab, co-founder of Ripple, which runs a network of interactive TV screens at coffee shops and bookstores.
In recent years, "Yahoo became less nimble," says Diab. "Yahoo lost touch with its roots that made it successful — the aw-shucks persona, everyday man."
Yahoo also failed to make talent recruitment a priority. "This caused a brain drain," says Lee, Didit analyst. "Superstars wanted to be where they could influence the final product."
Where this leaves Jerry Yang, Yahoo's co-founder who took over as CEO last year, is unclear. He could remain as an adviser, or leave the company he co-founded in 1994. Either way, Yang's 52.8 million shares, at $31 a share, would put $1.6 billion in his pocket; co-founder David Filo's 79.1 million shares would be worth $2.5 billion, according to Standard & Poor's Capital IQ.
But first the deal must close. Trip Chowdhry, an analyst at Global Equities Research, notes that Yang and Filo wouldn't be sitting pretty if the deal collapses — although Microsoft could still win big.
"With a bid this high, other suitors are repulsed," says Chowdhry. However, simply by putting Yahoo in play, Microsoft has "reinforced in the eyes of customers, employees and partners that this company (Yahoo) is fundamentally unsound."
"This is a very easy way to eliminate the competition," says Chowdhry.
Privacy matters
Meanwhile, privacy advocates are throwing red flags. Kevin Johnson, Microsoft president of platform and services, says both companies have been "leaders in focusing on privacy." But that hasn't allayed fears. Each company has less-than-sterling records.
Yang and Yahoo general counsel Michael Callahan were chided before Congress for the company's role in the imprisonment of at least two dissidents in China. A Chinese journalist was jailed after Yahoo China, then a unit of the company, handed information about the journalist to Chinese authorities in 2004.
Microsoft earned the wrath of privacy experts when it and Yahoo turned over search-engine data on customers as part of the federal government's efforts to revive a controversial online pornography law in 2006. (Google went to federal court to fight the government.)
Jeff Chester of the Center for Digital Democracy worries about a duopoly controlling consumers' online data. "Google and Microsoft will have inordinate power to shape the online communications marketplace, including journalism, entertainment and advertising," says Chester. "In an era when individuals are increasingly conducting their personal, social and political lives online, the corporations that control the digital experience will have a far-reaching influence."
The merger would face tough scrutiny from U.S. antitrust enforcers, says analyst Blair Levin of Stifel Nicolaus. But he says the argument that Google is so dominant that Microsoft and Yahoo need to join forces to compete more effectively could win the day.
The European Union would likely take a harder look at the deal and seek conditions preventing Microsoft from using Windows to make it tougher for consumers to access Google.
Acohido reported from Seattle, Swartz from San Francisco. Contributing: Paul Davidson in McLean, Va., and Matt Krantz in Los Angeles