Yahoo May Terminate Microsoft Search Ad Deal if Revenue per Search Lags Google

Yahoo may terminate its 10-year search ad partnership with Microsoft if the revenue-per-search query rate of Yahoo's and Microsoft's combined U.S. queries falls below a certain percentage of Google's estimated RPS in a 12-month average, according to a filing with the Securities and Exchange Commission Aug. 4.

This provision, which underscores the laser focus Yahoo and Microsoft have on search market leader Google, changes in the second leg of the 10-year term.

Any time after the fifth anniversary of the deal, Yahoo has the right to terminate the search deal if just Yahoo's U.S. RPS is less than a percentage of Google's estimated RPS on a 12-month average.

Yahoo may also terminate the deal if Microsoft exits the algorithmic search or paid search businesses. Moreover, if Microsoft decides to sell its algorithmic search or paid search services businesses, Yahoo will have a "right of first refusal and right of last offer to purchase such businesses."

Both companies can quash the deal if it is not hashed out by July 29, 2010.

Microsoft will also hire 400 Yahoo employees as part of its search ad deal with Yahoo, and could end up sharing 90 to 93 percent of the search ad revenues in the second leg of the agreement, according to Yahoo's 8-K filing.

Yahoo and Microsoft July 29 inked the deal in which Microsoft's Bing search engine and search ad platform would serve as the back end to Yahoo's search engine. Microsoft agreed to pay Yahoo 88 percent of search ad sales during the first five years of the deal.

In the second five years of the deal, Microsoft will have the option to terminate Yahoo's sales exclusivity for premium search advertisers, according to the filing. If Microsoft exercises its option, the revenue rate will increase to 93 percent.

However, if Yahoo exercises its option to retain its sales exclusivity, the revenue share will slip to 83 percent. If Microsoft does not exercise such option, the sales share will be 90 percent for the remainder of the agreement.

That should put to rest the questions several financial analysts asked Yahoo CEO Carol Bartz and Microsoft CEO Steve Ballmer about the second term of the deal during the conference call last Wednesday. Bartz said at the time provisions of the second term were complex.

Microsoft will also pay Yahoo $150 million, or $50 million per year during the first three years of the agreement, to cover transition and implementation costs.

Once the deal is consummated, Microsoft must hire 400 Yahoo employees, along with an additional 150 Yahoo employees to be mutually agreed upon to provide transition services.

Whether or not Microsoft would take on Yahoo employees to fortify its search and search ad platforms was also a hot topic among financial analysts; neither Bartz nor Ballmer had an answer for them last week on the call.

Other details defining technology licensing provisions include:

• Yahoo will have full flexibility with respect to the user experience, content, and look and feel on all of its Web pages.

• Yahoo may implement Microsoft mapping services and the mobile search services and may work with Microsoft to implement the services on other platforms.

• Microsoft must provide applicable search APIs, and Yahoo will have full visibility into Microsoft's product road map.

• Yahoo may have Microsoft deliver the algorithmic search services and paid search services through a search results page hosted by Microsoft, or a so-called "white Label solution," instead of through the Microsoft API.

Though the deal isn't expected to clear regulatory approval until early 2010, Microsoft and Yahoo have until Oct. 27 of this year to ink definitive agreements to set the deal in motion.

Should the deal pass muster with the Justice Department and Federal Trade Commission, Yahoo and Microsoft expect to recognize value from the agreement within two years, or plenty of time for Google to boost or lose share in search.