Yahoo! and Microsoft Search Partnership: Does Bing Plus Yahoo Equal Boogle?

On July 29, 2009 Yahoo! Inc. and Microsoft Corp. announced a 10-year strategic search partnership whereby Microsoft’s Bing search engine will be the default search engine for Yahoo!, with Yahoo! selling the search ads for the platform. The terms of the deal are that Microsoft will pay to Yahoo! a TAC (traffic acquisition cost) of 88% for the first 5 years of the partnership on all search advertising on its O&O (owned and operated) and affiliates sites as well as guarantee Yahoo!’s RPS (revenue per search) in each country for the first 18 months. Yahoo! expects the partnership to negatively impact net revenue (due to the 12% revenue share with Microsoft) but generate $275 million in incremental EBITDA, given $650 million in costs savings associated with outsourcing search technology. Capital expenditure savings are expected to be $200 million. In post-announcement trading, Yahoo! shares traded down $2.08 or 12.08% while Microsoft shares traded up by $0.33 or 1.41%.

It seems that while both companies come out ahead on this deal, Microsoft appears to be the bigger winner as it is now able to extend its recently upgraded search engine, Bing, to Yahoo!’s large online audience as well as gaining an all-pass access to users’ search data. Timing of the deal also plays into Microsoft’s favor as this current deal comes at a cheaper price and has been estimated to cost $3.00 per share versus $5.30 per share one year ago.

For Yahoo! the deal allows Yahoo! to turnover the keys to its market share losing search engine, while channeling focus on what it does best which is building an Internet audience and selling online advertising. However, absent from the deal terms was any upfront payment, compensation for any improvement from RPS in Bing searches (if Bing takes share from Yahoo! going forward, Yahoo! is not entitled to share in the success), and higher level of TACs than the 88% stipulated. In addition, Yahoo! will have limited access to data in users’ searches going forward.

How does this impact the Internet search industry overall? Answer is not much, at least not right away. The two companies estimate a 24 month integration time post regulatory approval. The real winner in the near term could be Google which is likely to pick up share during the disruption period. Google is still the 800 pound gorilla in search with a 65% market share in the United States and 67% globally vs. a combined Bing and Yahoo share of 28%.

So Microsoft has doubled down on search at a time when Google has announced the development of its own OS -- time will only tell how the Yahoo! / Microsoft partnership will exactly play out but one thing for certain is the head-to-head battle between Google and Microsoft on each other’s core territory.

IBM adds predictive analytics with $1.2bn SPSS deal; Software M&A intensifies

On 7/28/09 IBM announced its acquisition of SPSS for $50/share ($1.2 bn equity value and $1.0 bn enterprise value) representing a 42% 1-day equity premium. The predictive analytics offerings of SPSS is expected to reside in IBM's Information Management segment. Transaction represents IBM's continued execution on its Information Agenda strategy which began as data on demand for decision support and is blossoming into real-time trend forecasting and optimization capability for businesses. The deal illustrates large software vendors' interest and ability to pay up for strategic and competitive assets.

While the 42% single day premium, which is also well above the 52-week high, seems significant in today's depressed equity markets, the transaction is in line on a revenue multiple basis (3.3x EV/NTM Revenue) and is at a discount to its BI transaction comps on a maintenance revenue basis (7.7x EV/TTM Maint Rev)

SPSS has sophisticated statistical and data mining tools for structured and unstructured data, and predictive applications for enterprise business users. These products utilize algorithmic techniques to forecast potential outcomes or generate a call to action. With the proliferation of data, software vendors are trying to capitalize on opportunity to use data not just to support static decisions, but rather to leverage the data to present precise and relevant analysis that can help enterprises execute on future business opportunities. IDC estimates Business Analytics as a $25 bn market growing at 4% cagr and IBM is looking to establish its leadership. The transaction builds on earlier Analytics acquisitions including Cognos which presented general analytics and business intelligence on historical data. Wall Street expects revenue synergies from selling SPSS solutions through the enormous IBM global distribution network and expense synergies from consolidating operations into IBM's software infrastructure.

As regards Software M&A, more will follow in the footsteps of IBM/SPSS, Oracle/SUN, EMC/Data Domain. Gone indeed, are the bull market excuses of richly valued stocks and inflated private company valuations. The market today supports some of the lowest relative valuations we have seen in a long time; so why has deal flow been muted? Confidence, surprisingly is one often overlooked attribute. Confidence as defined by public market valuations of one's own stock price and, on a related note, inability to estimate revenue and earnings. How can the corporate development team credibly present target company forecasted financials and potential synergy assumptions to the Board when the CFO's office is having a hard time signing off on the company's own next year and next quarter financials. There is a lot of uncertainty in forecasting financials and since valuations in the tech world are driven by multiples on future revenue and earnings, the current market valuations and expectation of valuations remain depressed. This is true for the acquiring company as well as the potential target and this lack of confidence in self valuation drives the hesitation in pulling the "buy" trigger. We are now seeing large software vendors build up their confidence as they sit on large cash reserves and have stronger support for public market valuations. This increase in self-confidence will spark active M&A dialogue from others who have been siting on the sidelines and potentially lead to a robust Software M&A environment.