Hey Microsoft, How 'bout We Do That First Deal You Offered?

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The devil is in the details, and the details of the Yahoo-Google search advertising deal reveal the desperate, possibly neurotic state of Yahoo these days. Quite simply, it looks to me like Yahoo is effectively paying Google off to step in and (1) keep Jerry Yang, Sue Decker and the current board of directors in power, and (2) avoid a desperation deal with Microsoft for as long as possible, or longer. It’s not even clear to me that Google wants this deal, based on the terms. It almost looks like they’re just doing Yahoo a favor, and trying to keep them out of Microsoft’s hands.

My guess is, Yahoo is wondering exactly why they didn’t take that Microsoft acquisition offer back when it was on the table. Those were the days that Yahoo was a key asset in the Microsoft/Google war, and most of their best employees hadn’t bailed. Of course, that was $15 billion ago, and that offer appears to be long gone.

I’ll get more specific below, but the combination of a basically non-binding agreement combined with a complex termination clause and associated termination fee to Google, suggest that the deal is little more than a favor to Yahoo, with a payoff to Google for their trouble. And there are some other agreement oddities mixed in that are probably driven by both companies strong suspicion that at least a few politicians intend to make hay by trying to kill this deal. The Department of Justice, which will review the agreement for compliance with Antitrust laws, is going to have massive commercial (Microsoft) and governmental (Congressional members up for reelection) pressure to find things to object over.

I’m not going to quote language in the half dozen press releases, leaked internal memos and blog posts that all parties have now published. The actual language of the agreement Yahoo signed with Google tells me everything I need to know about why both sides did the deal, and what they think is likely to happen next.

Microsoft’s Last Offer

Microsoft last offered Yahoo a combination stock, asset and business deal that sources with knowledge of the situation summarize as follows:

  • Microsoft to acquire 16% of Yahoo’s outstanding stock from existing stockholders for $8 billion, or $35/share.
  • Microsoft to acquire all of Yahoo’s search and search marketing assets – servers, code, advertisers, third party publishers, intellectual property and employees (perhaps 3,000 of them) for $1 billion in cash plus a guaranteed CPC rate that is higher than what Yahoo can generate itself.
  • Yahoo gets increased search revenue from the deal over what they generate now, and get to remove people and operational costs of search.
  • Yahoo agrees not to touch the search or search marketing businesses directly ever again. All their searches are controlled by Microsoft.

Here’s what I think of this deal – it stinks. Microsoft isn’t marrying Yahoo, they’re just getting her pregnant, setting her up in a nice apartment and telling her not to talk to any other guys.

But either way, Microsoft is signaling that their offer remains open. And Yahoo can probably pick and choose parts of it to accept, within reason.

The Google Deal

Forget the flowerly language about how this deal “strengthens Yahoo’s competitive position” (Yahoo press release) or “is good for competition” (Google blog post). Both are flat out lies. The deal crushes any notion of a competitive search advertising market and turns Yahoo’s search and search marketing efforts into the undead.

The deal allows Yahoo to put Google ads along side their own, presumably to maximize revenue to Yahoo. Google’s good at the top search terms (probably 80% or so of revenue potential), but Yahoo thinks they do fine in the long tail. The problem, of course, is that they’ll show Google ads for all the good stuff – and advertisers will go to Google to bid for those ads. More advertisers will leave the platform, further degrading Yahoo’s core search economics.

The four year deal (which Yahoo can extend to ten years) seems great on the surface. It’s non-exclusive and doesn’t require Yahoo to place any ads.

But the non-exclusivity isn’t real, because there’s no one else out there that can compete with Google’s search ad rates anyway. And while there is no requirement for Yahoo to place any number of ads, if they don’t generate at least $83 million in revenue to Google every four months Google can terminate the deal.

And then there’s the matter of the extremely complicated $250 million (minus any net revenues Google received from running advertisements) termination fee should Yahoo merge with anyone else (with easier triggers for mergers with Time Warner, News Corp. or Microsoft). If Yahoo merges with anyone Google can terminate the agreement and force Yahoo to pay them $250 million. Time Warner, News Corp and Microsoft only have to acquire 35% of Yahoo’s stock to trigger this position.

But then things get a little neurotic. If Microsoft acquires between 15% and 35% of Yahoo, Google can terminate but not collect the $250 million fee. Over 35%, Google gets the fee.

I’m calling this the “If our shareholders or the government kill this deal, as is highly likely, then we get to try things with Microsoft and don’t have to pay you off” fee.

If you want to wade through the language yourself, the summary is here.

Bottom Line

Yahoo has pissed off shareholders and a looming meeting – they can’t ignore reality much longer. And reality says Yahoo’s future is bleak. They continue to lose market share, they have serious brain drain and morale has never been lower.

The Microsoft search deal seals their fate permanently, and I can understand why they didn’t want to do it. This Google deal is their only alternative at this point. They can get out of it at any time, simply by not serving Google’s ads. But as long as it’s live they’ll see their advertisers flow to Google instead of their own search platform, and they have to pay a hefty fine if they end up selling themselves to a third party.

Microsoft may yet get their hands on Yahoo, or at least the parts of Yahoo they want, simply by default as shareholders continue their revolt and/or the government puts a stop to the madness. Or not, and Google gets a long term pass to transition Yahoo’s remaining advertisers over to their own platform plus a hefty termination fee if Yahoo gets sold off at some point.

Either way, Google wins. Or Microsoft wins.

But Yahoo has lost.

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