May 5 (Bloomberg) -- Microsoft Corp.'s decision to drop its pursuit of Yahoo! Inc. increases the pressure on Chief Executive Officer Steve Ballmer to make his money-losing Internet business succeed against Google Inc.
Ballmer's bid for Yahoo, the most-visited Web site, signaled that Microsoft was making little progress against Google in Internet search advertising, said Charles Di Bona, a Sanford C. Bernstein analyst. Ballmer withdrew his bid over the weekend after Yahoo refused a sweetened offer of almost $50 billion, leaving investors asking what his online strategy will be.
``They've got to come out sooner rather than later with a pretty well articulated vision,'' said New York-based Di Bona.
The danger for Microsoft is that Google, owner of the most popular Web search engine and winner of the most online advertising dollars, will expand its dominance while Ballmer plans a new course. Google gained 10 percentage points of market share in Internet queries since June, providing 59.8 percent of the searches done in March, according to researcher ComScore Inc. in Reston, Virginia.
Ballmer and Kevin Johnson, president of Microsoft's Internet unit, met two days ago in Seattle with Yahoo co-founders Jerry Yang and David Filo, two people familiar with the negotiations said. Redmond, Washington-based Microsoft, the largest software maker, offered to raise its $44.6 billion bid by about $5 billion, to $33 a share. Yang and Filo refused to accept less than $37 a share, the people said.
Microsoft was probably right to walk away because its return from the purchase would have been too small if it had paid more than $35, Di Bona said.
`Square One'
The text promotions that run next to search results account for more than half the $41 billion market for Internet ads. With Yahoo, Microsoft would have tripled its share of U.S. online searches and would have become the biggest seller of graphical- display ads on the Internet.
Smaller acquisitions and investments in technology may not be enough to reverse the fortunes of the Internet unit, which lost $228 million last quarter.
``They're back to square one,'' said Chris Hickey, an analyst at London-based Atlantic Equities who recommends holding Microsoft shares. ``The fact that Microsoft wanted to do this deal shows what a difficult position they're in to start with. This reminded investors of Microsoft's poor market position and the long-term risk to its business from online competitors.''
Stock
Microsoft jumped 81 cents, or 2.8 percent, to $30.05 at 9:40 a.m. New York time in trading on the Nasdaq Stock Market. Before today, the shares had dropped 18 percent this year amid concern that sales of Microsoft's Windows software, which runs more than 90 percent of the world's personal computers, are slowing and that buying Yahoo would prove expensive.
Ballmer told employees in a May 3 e-mail that Microsoft can improve its search business without Yahoo. ``We have a strategy in place,'' he wrote. ``We are absolutely committed to being the leader.''
Microsoft has spent $7.5 billion on its Internet unit over the past 2 1/2 years, estimates Matt Rosoff, an analyst at Kirkland, Washington-based Directions on Microsoft. The online services business lost $745 million last fiscal year as Google outsold Microsoft in Internet ads by a 7-to-1 margin.
The company released its AdCenter Internet-advertising service two years ago to challenge Google with a program that targets ads by age, gender and location. Microsoft also bought Seattle-based AQuantive Inc. in August for $6 billion to gain tools that help advertisers track the success of their marketing efforts.
Other Buys
Microsoft may have to pursue other acquisitions, such as Time Warner Inc.'s AOL, to win more Internet visitors, Hickey said. Ballmer also may go after News Corp.'s MySpace social- networking site, Di Bona said.
Microsoft may come back with a new offer for Yahoo later, Heather Bellini, a UBS AG analyst, said before the decision. Oracle Corp., the third-biggest software maker, initially abandoned its bid for BEA Systems Inc. after BEA asked for 24 percent more than Oracle's $17-a-share bid. The companies agreed to the buyout three months later at $19.38 a share.
``There are no properties of the size of Yahoo that could replace it for Microsoft,'' Roger Kay, president of Endpoint Technologies Associates in Wayland, Massachusetts, said today in an interview with Bloomberg Radio. ``There are some smaller properties, including Facebook, MySpace and AOL, but they're not nearly as desirable.''
Value
Without a transaction with Microsoft, Yahoo's stock is worth about $21 a share, Kay said. The company fell $5.40, or 19 percent, to $23.27 on the Nasdaq. Earlier the stock dropped as much as 20 percent, the most since July 2006.
Ballmer probably can't catch Google in search advertising, said Charlene Li, an analyst at Cambridge, Massachusetts-based Forrester Research. Instead, he should customize searches to be useful to Microsoft's e-mail and instant-messaging users, building an audience from his own assets, she said.
``They're just so far behind and losing share,'' Li said. ``It's really hard competing against someone like a Google, and even a Yahoo.''
Google may benefit from the collapse of the deal as Web sites flock to the ``safe choice in an uncertain world'' for search ads, Goldman Sachs Group Inc. analyst James Mitchell in New York said in a report yesterday.
Yahoo reiterated over the weekend that Microsoft's offer wasn't enough. Yang had argued the company's rank in the U.S. search market and its Asian operations warranted a higher bid. He considered a combination with AOL and tested advertising software from Google. Last week, a person familiar with the matter said Yahoo might agree to a broader deal with Google.
``With Microsoft's withdrawal, we'll be better able to focus our energy on growing our industry leadership and maximizing value for stockholders,'' Yang, 39, said yesterday in a blog post. ``We'll continue to execute on our plan.'' He also said the company will keep exploring options to increase its value.
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