Microsoft/Yahoo! – Bigger Is Not Always Better

Authored by Jay Baage on February 1, 2008 - 7:58am.

Here's a quick analysis of one of the biggest stories in digital media and entertainment so far this year - Microsoft’s (NASD: MSFT) $44.6 billion offer for Yahoo! (NASD: YHOO). Strategically, it makes a lot of sense, but, in the world of M&A, there is a big difference between theory and practice. If the acquisition gets the nod of approval from anti-trust authorities as well as the shareholders, don’t expect Microsoft/Yahoo to become a lean mean online advertising machine overnight. Both companies are faced with their own fair share of challenges and it will take time for these companies, combined or not, to get their act together and catch up with Google (NASD: GOOG).

Microsoft’s CEO Steve Ballmer has made no secret of the fact that his aim is to transform the company from a straight software-company to one that is deriving most of its revenue from advertising. The online strategy is essential and MSN has not been able to compete with either Yahoo! or Google.

With Yahoo! being part of Microsoft, the company will have a much bigger footprint on the Internet and will be able to push a lot of their products and services on a much bigger scale. The combined content of Yahoo! And MSN yields an impressive list of top sites by industry category. With an offer that’s a 54% premium to Yahoo!’s closing price yesterday, Microsoft is also making it pretty obvious that the company really needs Yahoo!.

However, it is important to remember that if you look at search volume, Yahoo! Search and MSN Search together still only have a market share of 28%, which is not even close to Google’s 66%, according to Hitwise data.

Moreover, bigger is not always better and if the deal goes through, the combined entity is also creating new challenges. One is that it jeopardizes current options on both sides with companies such as Time Warner’s (NYSE: TWX) AOL division, another is that even with Yahoo!, Microsoft still don’t own a killer application on the web needed really to challenge Google.

Bottom line, the deal makes sense and all of a sudden we have a viable competitor to take on Google. That’s exciting news. However, the combined entity will be fighting an uphill battle and don’t expect either company to change into a web success story overnight.

Joakim Baage