The Microsoft-Yahoo Deal: Lessons for Startups

The founder of Silicon Alley Reporter and Mahalo.com parses the long-awaited pairing and draws some lessons for entrepreneurs

By Jason Calacanis

Editor's note: This column is adapted from a recent essay Calacanis sent to his newsletter subscribers.

Yahoo (YHOO) committed seppuku today.

The once-proud warrior of the Internet space laid down its sword, knelt at the feet of Microsoft, (MSFT), and gutted itself today. There was no honor in this death: It was brought about by the shame of losing to Google (GOOG) and a lack of faith in its ability to compete in the space it created. To be clear, Yahoo didn't need to do this deal; Microsoft did. Ultimately Yahoo will look back at this moment as the second—and perhaps fatal—mistake in its epic history.

Search is the most important business of the 21st century, and owning a commanding lead in second place is not insignificant. At one time, Yahoo was the No. 1 search engine and portal. However, it didn't see the value in search and decided to syndicate that piece of its business to a small company called Google. For a couple of years we all experienced Google in Yahoo's wrapper. Our only indication of who made this wonderful tool was a tiny "Powered by Google" logo on the top right of the page.

We noticed, and we learned. The thought leaders went directly to Google and dragged everyone but the laggards (Yahoo's current 20% market share) with us. Yahoo accelerated the ascent of the master. Had Yahoo not given its search franchise over to Google back then, there is a good chance that the race for the most important business of the 21st century would be a dead heat. Certainly it would be closer.

Buy, Don't Sell

Today, with its Microsoft deal, Yahoo again undervalues its search asset. Again, it will be "Powered by..." and again it will destroy its brand and its value.

All that being said, Microsoft's obsession with taking Yahoo's second-place position and adding it to its third-place position is not an indication that it's time to sell. Far from it. When Microsoft is interested in a space it is a clear sign that you should be investing in it—not selling it.

Microsoft's deep dive into a graphical user interface on an operating system, Windows, was a clear sign to Steve Jobs that his bet was correct. Steve doubled and tripled down, and that is why Apple (AAPL) is Apple. Microsoft's deep dive into word processors and spreadsheets was the clear sign to WordPerfect and Lotus 1-2-3 that this was a space worth fighting for.

Microsoft's massive investment into video games, mobile operating systems, and search are clear indications that Sony's PlayStation (SNE), Google's Android, the iPhone, Google, and Yahoo are very important products and companies.

Nintendo (NTDOY) didn't give up when Microsoft came into the video game space—it innovated. Now the Wii outsells the mighty Xbox 50 million to 30 million. That is how you fight Microsoft: You innovate. Steve Jobs knows this, Nintendo knows this, and Oracle (ORCL) knows this. Yahoo, apparently, did not get the 40-year-old memo.

Aggression and innovation win. Period.

To say it clearly: Microsoft does not enter a market unless it's important, huge, and on the way to becoming even bigger. Microsoft is the buy sign, not the sell sign.

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