Analysis: Yahoo bid could backfire lest Microsoft change its ways

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Microsoft’s $44.6 billion offer to purchase Yahoo is a dramatic statement from a company that delayed acknowledging the importance of emerging Web business models for so long, it faced becoming an also-ran in the Web 2.0 economy.

But the cultural implications of the move are so tricky that the deal could end up backfiring for both vendors if Microsoft doesn’t take care to learn from its past and use Yahoo to transform its business, not just help bolster its unproven efforts in online advertising and hosted services.

The unprecedented deal, which would put a sizable dent in Microsoft’s wallet, would be the largest purchase ever for the company. If Microsoft is willing to spend that much money, it also has to be willing to change some old ways of thinking to make the most out of the investment, analysts say.

To achieve this, analysts caution Microsoft to be careful not to view Yahoo as a one-trick pony, taken onboard only for its user base and infrastructure to bolster Microsoft’s online advertising interests against Google. While this is certainly the primary reason for the deal, to make the most of it, Microsoft has to not only respect the strength of Yahoo’s brand, but also be willing to let go of some of its own traditional proprietary interests—not just on the product side but in its culture as well.

Microsoft has never been one to let go of its vision or proprietary interests too easily; when acquiring companies, it usually subsumes the products and services and brands them as its own.

While this has worked in the past because Microsoft traditionally has shied away from acquiring big-name or big-ticket items—last year’s $6 billion aQuantive deal was a notable exception—it’s not as simple to do this with a company like Yahoo, analysts said.

In the areas of online search and particular services, and as an online destination for users, Yahoo is a stronger brand than Microsoft. Microsoft must recognize this and be willing to give up some of its interest in new content and services branded, respectively, under MSN and Windows Live to make the deal successful, said Ned May, director and lead analyst for market research firm Outsell.

“The big question is, will Microsoft take this and recognize it for being a stronger property and migrate its efforts there, or will it try to push its own efforts out through Yahoo?” he asked. “Historically, there’s no precedent for it to do anything but use [an acquired company] to get Microsoft’s message out.”

Though Microsoft and Yahoo are different types of companies and the union itself makes much more sense, Ron Schmelzer, analyst and managing partner with Zapthink, likened the deal to Time Warner-AOL, in which AOL’s brand was damaged, not enhanced, after all was said and done.

But investing as much as the gross domestic product of some countries in one company could inspire Microsoft to “change its stripes” and rethink its own interests, he said.

To make the deal a true success, Microsoft also has to prove that it can let go of its entrenched Windows OS and desktop software culture, which had been the anchor keeping Microsoft from moving more quickly against Google and Yahoo in online advertising and services in the first place, Schmelzer said.

“The application itself is moving away from the thing that sits captive on your desktop to the thing that’s distributed on the Internet,” he said. “Microsoft has to rid itself of its ’80s and ’90s perspective—which was great in the ’80s and ’90s, but now 80 percent of the value of the computer is not in the computer itself.”

Microsoft had been moving in this direction before Friday’s news, but has been burdened by its need to keep the customers of two of its biggest consumer products—Windows and Office—happy, as well as its enormous portfolio of enterprise and business customers. Instead of moving full bore into the Web, Microsoft had adopted a “software plus services” strategy as a nod to its software legacy and inability to move fully to a more services-oriented strategy because of it.

Still, some think an entire cultural shift isn’t necessary for Microsoft to make the most out of the deal. David Mitchell Smith, vice president and fellow at Gartner, said Microsoft can leverage Yahoo successfully without changing its usual way of doing things, by keeping the brand and merging the best parts of Yahoo’s Internet business, such as its online content, advertising and search, with its online services efforts.

“I would expect to see the Yahoo brand come out of this very, very strong,” he said. In particular, Microsoft has been making moves to drive more video and other multimedia content online through MSN, and that is one area where the company could give up its own identity in favor of Yahoo’s, Smith said.

Andrew Brust, chief, new technology for consulting firm twentysix New York, said that the combination of Microsoft’s existing Web technology and the Yahoo brand would be “nicely complementary,” though he acknowledged the risks of such a union. Even so, “risk aversion is not a good Internet strategy,” Brust said. Taking a risk in this area as well as bringing “some truly Internet-focused mindset into the corporate culture” may be just what Microsoft needs.

Others likened the deal to another risky one, HP-Compaq, which many feared would be a disaster because of product overlap and cultural differences. That deal eventually proved successful.

However, it’s important to keep in mind how much more of a role that culture and the cool factor plays on the Internet than it does in the world of traditional computer hardware, warned Outsell’s May. He said Yahoo users may be put off by the notion of Microsoft as their new daddy and see Google as the lesser of two evils, which would defeat the notion of the Microsoft-Yahoo union in the first place.

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