Microsoft, Yahoo or Google, who will win the paid search battle in 2010? Recent acquisitions might add $10 billion in revenue to one company’s pocket

Microsoft plus Yahoo vs Google, Microsoft vs Yahoo and other variations of names in the paid search game seem to make all the headlines these days. A week ago, StatCounter Global Stats reported that Microsoft’s new search engine, Bing, has passed the market share of Yahoo’s engine. Since Bing’s launch, both companies have tried to secure their positions in the market, but obviously none of them can overcome Google’s dominance in the search industry, which commands over 70 per cent of the market.

While Microsoft has made a significant effort to compete with Google in the search space, Google is coming up with a new operating system that might put Microsoft behind in another market. Microsoft’s online search revenue is insignificant when compared to its total revenue ($86 million in revenue for online search vs $16 billion total for the last quarter). The operating system has been Microsoft’s cash cow. Now Google is invading the space and the market looks forward to see how Google’s Chrome OS will change the landscape in 2010.

Yahoo seems to be way behind in all business segments and its stock has drastically declined, especially since the deal with Microsoft fell apart and the recent acquisition offer was withdrawn.

After several back and forth dramatic scenes involving Icahn, Microsoft and Yahoo, no deal was made, and Yahoo’s stock kept going down, and now, coupled with the dramatic market crash, it is even more pronounced.

It was obvious that the Microsoft-Yahoo M&A deal could not go through in any case, as it could not win government approval unless Google had achieved near-monopoly leadership in paid search. Therefore, for Yahoo the hope for Microsoft’s acquisition rescue seemed to be naïve.

But!

But the latest move of Yahoo reminds me of an ad campaign of Mini Cooper that, a few years ago, made the brand’s image – a little guy finds his way and gets ahead of giants.

According to rumors that I picked up in Yahoo’s office cafeteria while visiting a friend the other day (truly never eat alone if you want to hear the latest news first), Yahoo seem to have come up with a strategy that is shockingly simple but might look phenomenal in its post-acquisition grandeur.

The content of the rumor is interesting – Yahoo intends to make an amusing defensive acquisition and buy the IdeaMama Ad Network, the ad technology division of a Canadian company with its office in Silicon Valley. At first I was puzzled why Yahoo would need this small funky company, but here is my take on it.

This acquisition can put Yahoo in the leadership position by allowing it to introduce a radically new category of on-line advertising.

Let’s explore it. The success of search companies hinges not so much on relevance of search and quality of search algorithms (yes, Yahoo will always remain behind there); their success at the end of the day depends on advertising revenue. The bottom line is all that matters.

Up-to-date search engines use CPC as the main advertising model. Some include affiliate marketing with CPS, but not everything is that simple there. CPC has no chance to win a considerable portion of advertisers’ budget for a number of reasons; one is that the conversion rate of clicks delivered by content partners along with MROI sometimes is questionable. On the other hand, many publishers won’t advertise with Yahoo or Google for the low compensation that CPC can offer. Research webmasters’ forums and you will see how much negativity AdSense receives; publishers hate it as it is a lousy media monetization option, but there are not many alternatives out there.

The Pay Per Sale model is always preferable to search engines. Google seems to provide affiliate marketing options, but only for selected advertisers. Not everybody can jump on the bandwagon. You have to accumulate a significant amount of clicks first and then demonstrate a high conversion ratio, that, by the way, Google’s algorithm doesn’t calculate very well – there are plenty of holes that prevent stats from displaying real numbers.

But even that is not the main challenge. The problem lies in vertical coverage. This model can serve only ecommerce companies, those that sell goods online. The gate is not wide open for every company – if you sell business services, complex technologies or highly priced consumer products and your sales is mainly made off-line, you are totally out of options – the current processes and technologies don’t support affiliate marketing for such companies, end of the story. But it is a shame.

Even if Internet ad spending grows to over $100 billion worldwide by 2010, it still could be increased significantly if only publishers could tap into the sales commissions that affiliate marketing offers. As an example, if a company’s online marketing budget is $100,000 a year, no marketer can ever get over the hump to spend $200K for CPC instead – no way, but advertisers can easily take a portion of $1M+ sales commission and reallocate to publishers, which now increases publishers’ revenue many fold.

If the rumor proves to be true, the reason why I think Yahoo decided to bite on IdeaMama’s PPD (Pay Per Deal) model and use their ingenious deal tracking process is that it enables Yahoo to chip sales dollars from the growing B2B segment that is not so keen to pass to Yahoo’s CPC their marketing dollars. In simple math, if Yahoo can attract 100,000 small to medium sized service and technology companies that currently spend their dollars on CPC with Google and lead generation programs with other vendors, and if each advertiser pays a 10% commission on sales generated by Yahoo ads with content partners’ participation, Yahoo can add annually $10 billion in revenue to their P&L, assuming that average sales added to advertisers’ balance sheet is as little as $10M annually.

Even if my math is half off, the move with this acquisition is absolute genius as Yahoo will be positioned as the only search engine that offers PPD as an advertising option and will finally have a competitive edge and some identity instead of crawling behind Google.

Yahoo could probably develop the technology in house and launch it, bypassing acquisition, but a lawsuit resulting from infringing on IdeaMama’s patents would probably cost them more than the price of the acquisition itself, plus the hassle of explaining to its shareholders about corporate integrity. From what I heard Yahoo will be paying nothing for this deal, something under $20 million. Taking into consideration that the time factor is critical, bringing people knowledgeable in the PPD model from IdeaMama’s team to integrate the technology into Yahoo’s operation sounds like a smart move.

$10 billion in additional revenue for Yahoo will cost all together less than $30M (buying price plus system integration)? Hah? Someone might not like it. Yes, in the last few years Yahoo have clearly lost mind share and market share to competitors, but as I see it with this exquisite turnaround move Yahoo by definition can become the most important player in search marketing sphere as now the company can tap in into verticals that neither Google, Microsoft or AOL can reach (unless one of them places a higher acquisition bid I guess).

For Yahoo, more relevancy in search results and social media innovations won’t solve the problem of Google’s dominance in paid search advertising. Yahoo was behind and will remain behind even despite its acquisition by Microsoft if it ever happens. But Yahoo’s strategic acquisition of IdeaMama’s ad system will scale Yahoo’s online advertising platform and branch it into a new online advertising category with untapped and uncapped revenue potential. Now it is not social media innovation that everybody is talking about, but innovation in media monetization.

I find all that to be a very interesting development of the search game. I can’t wait to hear more about 2009 M&A activities and especially the M&A deal “Yahoo plus IdeaMama” and all the post-acquisition events. What happens next in the battle between search giants can be simply fascinating; you never know who pulls the next trigger and what it might be.