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When we last left Yahoo!, Jerry Yang (CEO) and the rest of the board
had just spurned Microsoft’s $44.6 billion takeover bid for the
supposedly greener pastures of potential deals with AOL, News
Corporation, and/or Google. The rejection of Microsoft’s bid also put
the current board on a collision course with Carl Icahn in what looked
to be a battle for control of Yahoo!’s board of directors.

Trials and Tribulations

After spending millions to buy 68.7 million shares of Yahoo!, Icahn
was set to nominate his own slate of directors for Yahoo’s board at the
company’s annual shareholder meeting. Icahn would use Yahoo!
shareholders’ fury over the botched Microsoft deal to win votes for his
board nominees and take over Yahoo!’s board. Yahoo! made a preemptive
strike however and managed to appease Icahn by granting him three seats
on Yahoo!’s board of directors in July. But what of the purported deals
with AOL, News Corp, and Google?

Well, to date, the AOL and News Corp deals never materialized, at least
publicly. However, Google and Yahoo! agreed to a partnership whereby
Google would deliver ads on Yahoo!’s network. The kicker in the deal
was that Google would pay Yahoo! more than Yahoo! could make with its
own ads, meaning Google was essentially buying market share from Yahoo!.

This deal would be investigated by the U.S. Justice Department and
opposed by Microsoft and online advertisers, who were arguing that the
deal would be anticompetitive and result in higher ad prices. In the
end, Google and Yahoo! were unable to appease Justice Department
investigators by offering to cap the number of ads that would be
displayed on Yahoo!’s network and Google walked away from the deal
rather than fight a lengthy legal battle.

Just before Google walked away from the deal, Yahoo! reported 3rd
quarter earnings. Operating income decreased 53% and revenues were
virtually flat compared to the same quarter in 2007. In addition,
Yahoo! announced it was laying off 1,500 employees as part of its
efforts to cut costs. All told, the Microsoft bid, Icahn ordeal, and
proposed Google partnership cost Yahoo! $73 million in fees for outside
advisors according to a filing with the SEC.

In the wake of this double-whammy, Yahoo’s stock tumbled to around $10
per share from its 52-week high of $30.25, which it reached when
Microsoft was attempting to acquire the company. Yahoo’s share of the
search market also continued to decline, falling to 20% in September
compared to 22.9% a year ago, according to comScore. What is Yahoo! to
do? In a word, grovel.

“To this day, I believe the best thing for Microsoft to do is to buy
Yahoo,” Yang said at the Web 2.0 summit in San Francisco, the Associated Press reports.

Still?!

To which Microsoft CEO Steve Ballmer replied, “We made an offer, we
made another offer, and it was clear that Yahoo didn’t want to sell the
business to us and we moved on. We are not interested in going back and
re-looking at an acquisition. I don’t know why they would be either,
frankly. They turned us down at $33 a share.”

Could Ballmer be using his public comments to further drive down the
value of Yahoo!’s stock before making another bid? Or is he stating his
actual beliefs on the matter and only interested in “some kind of
partnership around search?” Only time will tell, but it certainly seems
like Microsoft is moving forward with new strategies for challenging
Google.

Microsoft Moves On

Several of these strategies include new or extended partnerships. One
such extended partnership is with long-standing Microsoft partner
Hewlett-Packard, where Microsoft will install its Live Search toolbar
on all HP computers in North America starting in January 2009.

Microsoft is also negotiating with Verizon to become the default search provider on the company’s cell phones, according to the Wall Street Journal.
Though the terms of the deal are still being discussed, early
indications are that the two companies would share ad revenue generated
from web searches made on Verizon cell phones.

Yahoo!’s Future

What does Yahoo! do to secure its future as a viable Internet property
going forward? Well, it’s changing leaders for one. In mid-November,
Yahoo! announced Yang would be returning to his post as Chief Yahoo! as
soon as the company found a new CEO. In addition, over the last few
months, Yahoo! has rolled out a number of initiatives, releasing its
own analytics package (similar to Google Analytics), updating the
design of Yahoo! News, launching the APT (formerly AMP!) digital
advertising platform, and announcing the Yahoo! Open Strategy, which
aims to make Yahoo! programs open source.

While the change in leadership and these initiatives seem like steps in
the right direction, we believe Yahoo! will need to pick a new CEO that
brings fresh strategic ideas to the table and the company will need to
develop significant proprietary innovations in search technology that
convince users to switch back to Yahoo! for web searches. Yahoo! will
probably need partners in this turnaround effort too. Microsoft is open
to a partnership and combining search algorithm, mail, and instant
messenger research efforts would save both companies substantial
amounts of money. Such a partnership could also make Yahoo! the default
search provider in Internet Explorer, Office, and other Microsoft
software products and web properties. Whatever course Yahoo! chooses,
hopefully it won’t be too little, too late.