Microsoft, Yahoo Reach Search Partnership

After about a year from Microsoft’s (NASDAQ:MSFT) hostile and unsuccessful takeover bid for all of Yahoo (NASDAQ:YHOO) for $47.5B, the two companies have finally agreed to forge a partnership to collaborate on Internet-search technology and advertising, and more importantly – join forces to take on a common rival – Google (NASDAQ:GOOG), in the lucrative Internet search business.

Several media reports, about Yahoo and Microsoft getting closer to announce a deal, lacked Tuesday the details of how the deal would have been accomplished. Reporting was at best conflicting and the framework appeared to be rather complex. But today that changed. Under terms of the new agreement announced Wednesday, Microsoft’s new search engine, Bing, which by the way has shown strong numbers just out of the gate, will power Yahoo’s searches, while Yahoo will handle the advertising sales, using Microsoft technology.

The 10-year agreement allows Yahoo to initially receive a lucrative 88% of search-generated ad revenue from all search ad sales on its site for the first five years of the deal, and gain the right to sell ads on some Microsoft sites.

At full implementation (expected to occur within 24 months following regulatory approval), Yahoo! estimates that this deal will provide an annual profit of $500 million and capital expenditure savings of approx. $200 million. Yahoo also estimates that this agreement will yield to annual operating cash flow of $275 million.

The partnership does not however, cover each company’s web properties and products, email, instant messaging, display advertising, or any other aspect of the companies’ businesses. In those areas, the companies will continue to be competitors.

The two Internet companies said in a joint statement they hope the new agreement will help lead to faster, better and more relevant results for web users and advertisers when conducting online searches.

In a conference call this morning, Steven Ballmer, Microsoft’s chief executive, said, “Through this agreement with Yahoo, we will create more innovation in search, better value for advertisers and real consumer choice in a market currently dominated by a single company.” [NYT]

“This deal is really about scale,” said Yahoo Chief Executive Carol Bartz. “By combining the … technology of both companies, we can create a real, viable alternative for advertisers.” [CNNMoney]

The newly announced deal should give Microsoft’s Bing a significant boost in competing with Google’s search engine, and solidify the software giant as the clear No. 2 player in search.

Google however, continues to dominate the search space, holding about 65% of the U.S. Web-search market share, according to figures provided by research firm – ComScore (NASDAQ:SCOR). Yahoo and Microsoft have 28% of the market, combined.

Since the Yahoo-Microsoft transaction will be subject to regulatory review, there is a chance that the new deal combining the powers of the second and third-ranked search engine internet companies could be blocked by antitrust regulators.

“Any agreement where Microsoft powers search and shares the search data to Yahoo is open to scrutiny from US and EU justice departments,” said Colin Gillis, an analyst at Brigantine Advisors. [Reuters]

Google and Yahoo dropped plans for an advertising partnership last year under opposition from the U.S. Department of Justice.

MSFT is currently up 9 cents, (+0.35%), to $23.55 in Nasdaq Stock Market trading. The shares have jumped 21% in 2009. Yahoo, is down $1.94, (-11.38%)  to $15.23, rtq.

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