Google-Yahoo: Unintended Consequences

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At the same time, Yahoo now has few alternative ways to reverse its slide while satisfying restive investors. A long-rumored deal for Yahoo to buy Time Warner's (TWX) AOL unit continues to be unlikely, according to sources close to the companies.

Bernstein Research analyst Jeffrey Lindsay believes it's even less likely now because the lost revenue from the Google deal leaves Yahoo without enough cash to pull it off. Moreover, Yahoo's Asian properties are a less viable way to generate cash. They were valued at up to $10 billion earlier this year, but the market meltdown and credit crisis have made divesting them unlikely.

The Microsoft Option

One of the few other options left to Yahoo is one it has repeatedly rejected: a sale of all or part of its operations to Microsoft. Yahoo shares rose 4% on Nov. 5 on speculation by analysts and investors that Microsoft eventually will return with another offer. However, sources close to the companies say there are no current talks, and Microsoft has repeatedly said it's not interested in making another offer. In any case, such a bid also would face an antitrust review.

Many analysts believe Microsoft will in fact return with a new bid, but probably not until after the start of the year, when the Administration of Barack Obama takes over, to avoid having its offer stuck in regulatory limbo under the lame-duck Bush Administration. "There is no other company that needs Yahoo as much as Microsoft, and Microsoft does not have a Plan B in search," says Sandeep Aggarwal, an analyst at financial-services firm Collins Stewart.

Even if that deal happens, the result might not be much better for advertisers than a Google-Yahoo pairing. The market would have one less competitor, even if the resulting entity is stronger. "Advertisers will also frown on Microsoft trying to buy Yahoo's search arm," says Bryan Wiener, CEO of digital ad agency 360i. He says they would prefer Microsoft keep Yahoo's search unit independent. But that doesn't appear to be part of Microsoft's plan, based on its past proposals.

Antitrust Actions Can Be a Distraction

The outcome of the failed Yahoo-Google deal—an even more dominant leader—illustrates how difficult it is for antitrust regulators to contend with quickly evolving technology markets. "The traditional antitrust models don't take rapid change in technology industries into account," says Melissa Maxman, a partner and head of Baker & Hostetler's Antitrust Practice Group and a former assistant U.S. attorney general.

Antitrust actions can, however, end up distracting their targets. By many accounts, Microsoft became less aggressive after its antitrust battles in the 1990s in cases that took several years to settle. Some analysts believe the scrutiny distracted Microsoft from pursuing key Internet initiatives strongly enough to counter Google's growing power. "Businesses tend when they become this prominent to become more defensive and do less experimentation," says Mark J. Botti with the law firm Akin Gump Strauss Hauer & Feld.

By exiting the deal, Google clearly hoped to avoid falling victim to that dynamic. Still, with a new and likely more aggressively antitrust Administration about to take power, Google increasingly may be under a regulatory microscope. "I think we're going to see more of this," says Ben Schachter, an analyst with UBS (UBS). "It hasn't limited their opportunities so far. But could it? Absolutely." For now, however, Google remains as dominant as ever.

With Aaron Ricadela.
Hof is BusinessWeek's Silicon Valley bureau chief.