Our Analysis of the Deal, Potential Impacts

The day has finally arrived.  Microsoft and Yahoo have figured out how to partner together.  And, it was all done under the unparalleled scrutiny of incessant press and blogger coverage.  Congratulations to Steve Ballmer and Carol Bartz.  You get an A+ for persistence.

There are a lot of purists and contrarians criticizing Yahoo for entering into this agreement, most of which presumes a loss of entrepreneurship, innovation and competitive advantage.  However, let’s set the story straight.  Yahoo has been struggling in the search marketplace for quite some time.  They have seen their market share erode and have not shown any signs of turning that around.  Google, through their simple user interface and continuous innovation, has claimed the search marketplace as its own.

What options were left for Yahoo?  Dethroning the market leader is never accomplished with a “me too” strategy.  Either they would have to out-innovate Google (which, given their history, would be nearly impossible) or they will have to compete with scale by “merging” with other like-minded competitors.  Why is this surprising to so many people?  The same story has been played out many times across a large number of industries.

Jerry Yang, Yahoo’s co-founder and recently-departed CEO, refused to let Yahoo be acquired by Microsoft, which turned out to be a huge mistake as the economics have gotten significantly worse since Microsoft’s first offer.  So, why did Yahoo persist in working on a deal under their new management?  Why didn’t they hold out for a better offer?  The reality is that there is only a single partner that they could legitimately work with to pose a competitive threat to Google.  That is a hard spot to be in, as there is no chance of getting into a bidding war and improving your outcome.  The deal was done because the benefits of doing a deal outweighed those of the status quo.

So, let’s talk about the benefits.

First, on the cost side, there are huge economies of scale to be had by having a single sales and, more importantly, a single development organization focused on search.

Second, many companies advertise only with Google because of the time and resources it takes to manage search campaigns.  Now, they can get significant distribution by advertising with Microsoft and reaching all Microsoft and Yahoo search properties.  This will cause many advertisers to consider expanding their search efforts to include Microsoft.

Third, for users life is simple.  Everything should be completely transparent.  They will go to the same web sites, with the same user interfaces.  The only difference is that the search ads will be served up by Microsoft (apparently with a “powered by Bing” tag on each Yahoo search result page.)

For advertisers, however, there are both pros and cons.

First, the pros: as we’ve seen in the financial sector, creating large-scale marketplaces for transactional commerce—such as the NYSE or Nasdaq—creates a more efficient marketplace and grows the market in aggregate.  So, a result of this union should be that publishers receive better calibrated revenue associated with each ad placement and likewise advertisers should pay more accurate prices for each click.

The downsides: first, prices for ads that were under-priced will see a rise as rates calibrate.  As an example, in our own client base, with the introduction and increased volume of Bing in the last month, we have seen sub-$2 per-click keywords at Microsoft become more expensive than the same keywords at Google.  Something to keep an eye on.  The other concern for advertisers is the mention in today’s announcement that Yahoo will serve as the “relationship sales force for both companies’ premium search advertisers.”  Will this mean a non-premium advertiser (i.e. most of us) will be at a competitive disadvantage to the premium advertisers? Seems likely.

As far as Yahoo is concerned, it seems clear they have made the decision to focus on their core strengths – content and display.  This is the right decision in a trying time in their history.  And it’s good for Microsoft, too.  If they didn’t do this deal, we would have seen both Yahoo’s and Microsoft’s search efforts slowly fade into the shadows of irrelevance.  This would be devastating to consumers and advertisers alike who want and need to have choice.

It will take time for Microsoft and Yahoo to work out the details and integrate their platforms.  And the anti-competitive / anti-trust forces are already massing to oppose this deal, according to the Wall Street Journal, which might cause further delays.

In the meantime, the clock is still ticking for businesses trying to attract and acquire customers using search marketing.  Thus, companies of all sizes will still need to leverage all three search engines–Google, Bing and Yahoo–to meet their business objectives and outpace their competitors.  All of us here at Yield Software are here to help you do just that.