Microsoft: What Web Strategy?

The software giant left some analysts wanting more detail on plans to turn around its limping online operations after failing to acquire Yahoo

Microsoft CEO Steve Ballmer. Samuel Kubani/AFP/Getty Images

by Jay Greene

Microsoft (MSFT) has all but shut the door on the prospect of resuming talks to buy all or part of Yahoo! (YHOO). Speaking at the company's annual meeting for analysts on July 24, Chief Financial Officer Chris Liddell said a Yahoo deal at this point "essentially makes no sense."

If Yahoo is no longer the remedy for Microsoft's ailing online operations, what is? The software giant spent part of the day trying to persuade analysts that it's got something better in mind. Yet with Wall Street growing increasingly impatient to see results from its online operations, Microsoft gave only a glimpse into what to expect in terms of ongoing spending and returns. Chief Executive Steve Ballmer said the company plans to continue spending 5% to 10% of operating income, a modest amount relative to the potential returns, he argued. And those returns could hit 20% to 40% if Microsoft is successful, Liddell said, though he didn't disclose a time frame for when that might happen.

Microsoft also pulled back the curtain on plans to provide Web search tools to users of Facebook, and to place search-related ads on pages of the social network by the end of 2008. The Redmond (Wash.) company last year paid $240 million for a tiny, 1.6% stake in Facebook, a swiftly growing Web site that boasts some 90 million registered users. Deepening ties with Facebook is probably a smart move.

The Google Gap Widens

Still, some Wall Street analysts came away from the meeting wishing Microsoft had said more. "My expectations were low and they exceeded my expectations, but they didn't give me everything I wanted," Sanford C. Bernstein (AB) analyst Charles Di Bona said. "It would have been nice to have been more concrete about what was game-changing."

That's important because now Microsoft is losing the game, despite spending billions over more than a decade only to rack up huge losses. The operating loss in Microsoft's online-services business more than doubled, to $1.23 billion, in fiscal 2008, from $617 million a year earlier. Meantime, Google (GOOG) has taken the lion's share of revenue in the business and continues to lengthen its lead.

Ballmer stressed that the market is still young. "This is a transformation which is in its infancy," Ballmer said. "I know it may feel some days like it's all over. The story has been written. But, if you look at it today, the bulk of advertising and marketing in the world, the lion's share, is offline, not online."

Yahoo: "Declining Asset"

The company surprised investors a week earlier when it announced $300 million in new spending (BusinessWeek.com, 7/18/08) on its online business. Ballmer said Microsoft needs to spend in order to position itself to succeed. "We're going to have to ante up in a significant way to even be in this game," he said.

Another bombshell came on July 23, when Microsoft said Kevin Johnson, the executive responsible for the online division and one of the biggest proponents of a Yahoo deal, is leaving (BusinessWeek.com, 7/24/08).