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After more than one and a half years of negotiations, Microsoft Corp. and Yahoo! inked an agreement under which Microsoft Bing search engine will power search of Yahoo!, while the latter will become the exclusive worldwide relationship sales force for both companies’ premium search advertisers. The move is clearly aimed against Google, but it remains to be seen whether Microsoft and Yahoo! succeed in capturing search and ad market share from the leader.

“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. Success in search requires both innovation and scale.  With our new Bing search platform, we’ve created breakthrough innovation and features.  This agreement with Yahoo! will provide the scale we need to deliver even more rapid advances in relevancy and usefulness,” said Steve Ballmer, chief executive officer of Microsoft.

Under this agreement, Yahoo! will focus on its core business of providing consumers with great experiences with the world’s favorite online destinations and Web products. Microsoft will acquire an exclusive 10 year license to Yahoo!’s core search technologies, and Microsoft will have the ability to integrate Yahoo! search technologies into its existing web search platforms. Microsoft’s Bing will be the exclusive algorithmic search and paid search platform for Yahoo! sites. Yahoo! will continue to use its technology and data in other areas of its business such as enhancing display advertising technology.

Microsoft will compensate Yahoo! through a revenue sharing agreement on traffic generated on Yahoo!’s network of both owned and operated (O&O) and affiliate sites. Microsoft will pay traffic acquisition costs (TAC) to Yahoo! at an initial rate of 88% of search revenue generated on Yahoo!’s O&O sites during the first 5 years of the agreement.

At full implementation (expected to occur within 24 months following regulatory approval), Yahoo! estimates, based on current levels of revenue and current operating expenses, that this agreement will provide a benefit to annual GAAP operating income of approximately $500 million and capital expenditure savings of approximately $200 million. Yahoo! also estimates that this agreement will provide a benefit to annual operating cash flow of approximately $275 million.

According to Technology Business Research, the deal is a clear win for Microsoft, which receives the search volume it needs, without the risk and expense of a full acquisition of Yahoo!, all for a fraction of the proposed acquisition price.

“With Microsoft starting from less than a 10% share of search, and Google maintaining around 70%, it would take years for Microsoft to build any serious presence in the market. While Google’s share of the market and hold on consumers is formidable, Microsoft’s advertising deal with Yahoo! may be the best shot at succeeding in the market. This deal will instantly triple Microsoft’s share of the search market, providing the scale to attract a greater advertising base, creating the possibility to monetize its search and advertising assets for the first time,” said Allan B. Krans, a senior analyst at TBR.

Tags: Microsoft, Yahoo

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