Will Microsoft and Yahoo work out a deal?

Sooner or later, Microsoft and Yahoo will come to some sort of agreement on their common interests, even though they also have divergent interests, but the idea of a full acquisition of Yahoo is essentially a non-starter. Sure, Microsoft has a content business, but trying to outright merge it with MSN would not be worth the effort or the upfront or long-term costs. Maybe some form of blending or cross-promotion would benefit both parties. What Microsoft really should do is to become the search provider for Yahoo. Ultimately, Microsoft does not need to buy any assets at all, but simply should become the search service provider for Yahoo. But, since Yahoo has such a large investment in search, Microsoft may need to buyout some major chunk of that investment in order to convince Yahoo to make a deal happen. I suspect that what really needs to happen is for Microsoft to provide some form of preferential treatment for Yahoo content search results. And, maybe, Microsoft would abandon some, but not all, of its own content services in favor of associating with Yahoo content services.

One big unknown is the degree to which Yahoo would get out of the ad brokering business and rely on Microsoft to sell ad space on Yahoo content. I am sure Microsoft wants that, but Yahoo may not be willing to do that, at least in any initial search-provider deal. Longer term, this does seem the way that Yahoo should go, to limit and leverage its own resources.

This whole deal might be a multi-step process, a confidence-building process, with each step getting bigger until the final deal can be completed.

In any case, it is still likely that Yahoo would remain a separate corporation from Microsoft, even as Microsoft becomes a very significant service provider to Yahoo.

Ultimately, Yahoo needs to dramatically shrink its level of investment, effectively outsourcing that to Microsoft, who will be in a better position to leverage investment, so that Yahoo can focus on the content areas where it does best. And maybe then Microsoft can outsource some of its own content to Yahoo to leverage their investment as well. In essence, Microsoft is a platform company, with search and advertising being key platforms.

I suspect that Microsoft and Yahoo will in fact ultimately do some sort of deal. Maybe it will simply take some additional economic weakness to convince Yahoo to give up some of their overly idealistic fantasies of doing everything on their own.

Disclosure: I do own Microsoft stock.

-- Jack Krupansky