Saturday, February 16, 2008

Microsoft vs Yahoo

Few people outside of technology & business circles may have heard about this. But there is a very big battle brewing in the world of online technology. Online giants Microsoft and Yahoo are now in a fight for each others' survival. At least, that is the way that I see the thing shaping up.

The online world is essentially dominated by three corporate giants: Google, Yahoo and Microsoft. Of these three, only Microsoft has any substantial business interests in the real world, such as it's desktop OS systems and Xbox gaming systems. But in recent years, it has faced increasing challenges from many sides.

In the gaming console market, it has yet to achieve any success in dethroning Sony, even after spending hundreds of millions in marketing dollars and losing almost as much by under pricing it's console. It's initial lead has already been taken away by the little Wii, which has been flying off the shelves and been sold at a profit from the very beginning. Now that the PS3 is breaking even and Blu-Ray becoming the de-facto standard for hi-definition discs, the Sony behemoth is expected to maintain it's domination of the console market worldwide.

In the software market, it is beginning to cave to the onslaught of open source software. It doesn't help either, when it's two online rivals are strong proponents of Open Source. Vista has driven many people to try out alternative operating systems such as Linux and OSX. People are starting to wake up to the fact that there are actually alternatives to Microsoft products that deliver better solutions at a fraction of the cost. This has driven Tier 1 PC vendors such as HP and Dell to start offering alternative OSes with new computers. In fact, many Asian vendors such as Acer and Asus are beginning to deliver products directly bundled with their own customised Linux OS. Microsoft's tight grip on the PC market is lost.

It's venture into the mobile devices market has not met much success either. Although it has essentially defeated Palm in becoming the predominant software system on mobile devices, it is again facing increasing competition from Linux. Manufacturers such as Motorola are beginning to embrace Linux in their mobile phones and Nokia uses Symbian exclusively. In fact, Google has declared war on this front as well, with their recent entry of the Linux-based Android platform, which is going to be both a hardware and software platform, done right, for mobile devices.

It's online ventures have never had as much success as those of Yahoo or Google. In almost every online service category, it is very much running in third place. I think that it's only saving grace is MSN messenger. And with the world increasingly going online and With the vast potential of online marketing dollars at stake, it cannot lose this war if it is to continue surviving. Hence, it's unsolicited offer for Yahoo.

In fact, rumours of a merger have been circulating around for years. So, when Microsoft announced it's unsolicited offer for Yahoo of $45 billion, no one was really surprised by the move. And when Yahoo formally rejected the offer, even less people were surprised by it. Therefore, this fight is shaping up to be an interesting case study on hostile acquisitions for several reasons. And I'll try to explain some of it.

Let's start from the top, the board of directors. Jerry Yang, had issued a public email on the reasons for rejecting the offer. In it, he essentially suggests that the offer from Microsoft is a tad insulting. He extols the various virtues of Yahoo and how they are well positioned to capture the future. In particular, he points out that although Yahoo is only worth $45 billion now, it is expected to grow to $75 billion by 2010. So, it is obvious that if Microsoft will need to raise it's offer if it were to acquire Yahoo.

However, Yahoo's largest shareholders aren't too happy with the idea of asking Microsoft to cough up more money. These same shareholders have got more money invested in Microsoft than in Yahoo. You can expect them to play an important role in making sure that this deal goes through. They all know that Microsoft is in trouble and it would be in their interests to ensure the survival of both companies as a unified entity. If Microsoft fails in this acquisition, it's only other alternative is a war of attrition that these shareholders would not want to see.

There is also a last group, often overlooked, that are against the proposed acquisition: the engineers working there. Most of the people working at Yahoo could've just as easily worked at Microsoft. Many of them chose not to for personal and cultural reasons. You'd be surprised at how important these soft values are in geekdom. Some have openly come out to say that they would rather quit than to work for the enemy. Some have threatened to move en-mass over to Google. Although these people don't really have much authority when it comes to major strategic decisions, they were acknowledged in Jerry Yang's email and would probably feature in any final decision. A technology company is worthless without it's engineers.

Another aspect that many business people will overlook is the technical incompatibilities of the two giants. Yahoo is a fairly strong use of Linux and a contributor to Open Source, the very anti-thesis of Microsoft's businesses. Therefore, running the products side-by-side would not even be an option for Microsoft. One of the first things it will need to do is to replace the very guts of what makes Yahoo turn, from the inside out. Considering the size of Yahoo's online services, this is not going to be an easy transition. Even from a purely technical standpoint, it is going to cost them more money to fully integrate the products.

However, Microsoft's business strategy to date, can be described as embrace, extend and exterminate. Therefore, it is likely that Microsoft's plan is to just rip out every Yahoo product and replace it with it's Microsoft equivalent. But, this would be technological suicide. The acquisition would lose value almost overnight as people migrate away. There is value in Yahoo's services. That is the reason why people didn't use the Microsoft alternatives in the first place. It's not for the lack of trying on Microsoft's part.

It would be interesting to watch what Microsoft does next. For one thing, it will need to do borrow money. As large as it's war chest is (once rumoured to be more than $50 billion), it would not be enough to force Yahoo's hand, and survive the ensuing battle with Google. I would also be interested to see how Google responds to the acquisition. It has remained silent thus far. I do believe that instead of expansion, it would shore up it's defences and work on strengthening it's own product lines.

I believe that this acquisition will happen. Ballmer is not the kind of person to give up. You can be sure that Microsoft will do all in it's power to force an acquisition through. As I had said at the beginning, this is a fight for survival for the both of them. If it falls through, this will degenerate into an all out war of attrition. Microsoft has far more experience fighting in the trenches than Yahoo does and Microsoft does not fight fair. All that Yahoo can do is run.


Chet Wei said...

Hey Shawn, I love this entry because of its depth and analysis. Just curious, how did you know that some of the prominent stakeholders are involved in both Yahoo and Microsoft? =)

Eugene said...

New's Corp might be Jerry Yang's way to raise the price. Any idea if it will work?

PS: To Chet Wei:
Compare and
Nevertheless, some larger stakeholders in YHOO (eg: Legg Mason Value Trust) would certainly like it if Microsoft raises its offer