Microsoft-Yahoo Combo Could Accelerate Services Strategy

Microsoft's bid for Yahoo Friday morning is about more than just Web search and online advertising. The two companies together have an army of online offerings, and Yahoo's infrastructure, products, and brainpower could bring significant new energy to Microsoft's emerging "software plus services" strategy, but significant stumbling blocks remain in the way of quick success.

"They have been pioneers and leaders in building compelling high scale services and infrastructure," Microsoft chief software architect Ray Ozzie said on a conference call with analysts Friday morning. "Yahoo has tremendous community and content assets, and by combining these with Microsoft's experience and our own assets, we can further and accelerate the transformation for all users to a more social Web."

The initial shape of the combined Microsoft-Yahoo services strategy leaves a significant amount to the imagination at this point, especially since so many products from of the two companies overlap and compete. There's Yahoo Mail and Hotmail, Yahoo IM and Windows Live Messenger (which are already interoperable), Yahoo 360 and Windows Live Spaces, Yahoo.com and MSN.com, Yahoo News and MSNBC.com, and the list goes on. Integrating these services may cause major headaches as Microsoft tries to keep customers and keep executive focus on its other businesses while moving customers to a new platform.

In the short run, the newfound advertising prowess of Microsoft could provide a way to shore up against Google's own emerging software-plus-services strategy, which includes Google Apps and Google Gears, among other efforts.

"The important impact is to prevent Google's software-plus-services strategy to get onto Microsoft's turf," Directions on Microsoft analyst Rob Helm said in an interview. "Microsoft has to grab enough of the advertising to prevent Google from getting in any significant way."

It will need to be sorted out whether to keep Microsoft-Yahoo services separate or to integrate them, but Yahoo would bring a number of new capabilities beyond scale to Microsoft. A few of Yahoo's popular services fill niches where Microsoft is either unpopular or doesn't have competing services, especially in the social realm with sites like Flickr and Del.icio.us, as well as popular investor site Yahoo Finance.

"The Web has also evolved toward social media and social platforms," Ozzie said. "This social platform will progressively become a new entry point to all that the Web can offer. Before long these technologies will even transform the productivity side of our lives as the social platform enters the workplace."

As Microsoft looks to bring Internet experiences into Office and Windows, it could do worse than bringing Yahoo products to bear there. "The Windows experience needs to increasingly embrace the Internet," Microsoft CEO Steve Ballmer said on the call with analysts. The possibilities are numerous, including a combined Yahoo-Microsoft instant messaging client included with Windows, a Windows Live suite that includes photo sharing through Windows Live Photo Gallery but with the social networking aspect of Flickr, and the addition of Yahoo's small business online store services to Office Live. Like Microsoft, Yahoo has been busy building huge data centers to scale its online business. It's built its own 140,000-square-foot facility in Quincy, Wash., right down the road from one of Microsoft's main data centers and is reportedly building others in such far-slung places as Switzerland.

Microsoft's been spending billions recently on data centers, so these physical assets should provide Microsoft with new horsepower to scale services for consumers and businesses alike. That said, even this is not without significant challenges. The two companies' data centers reside on drastically different infrastructures, and Microsoft took a long time even integrating its own technology into Hotmail, according to Directions on Microsoft's Helm.

Though Yahoo has long focused on Web search, the combination of its search team and Microsoft's could free up more resources to work on deeply integrating Microsoft's desktop and Web search efforts. Windows Vista has the capability to search the Web directly from its desktop search bar, but the user interface is such that a search still opens up a Web browser to do the actual searching.

With efforts like Windows Live Photo Gallery, Office Online, and SharedView (part of Office Live Workspaces), Microsoft is working to divorce some online functionality from the browser and build it directly into Windows and Office. The combined engineering talent of Microsoft and Yahoo could put significant work into making this mode of "software plus services" as Microsoft calls it, more pervasive. The combined talent, however, could become depleted if Yahoo employees decide to take the money they'll earn with the 62% premium Microsoft' s proposed purchasing price places on Yahoo.

Yahoo, like Microsoft, is connected to developers through the Yahoo Developer Network and developer tools like mashup tool Yahoo Pipes, and has engineers versed in the Web and mobility.

"Our combined ability to focus engineering resources that drive innovation in emerging scenarios such as video, mobile services, online commerce, social media, and social platforms is greatly enhanced," Microsoft CEO Steve Ballmer said in a letter to Yahoo's board of directors Thursday night.

The deal could also affect relationships Yahoo has with other major technology companies. For example, Yahoo and IBM offer a joint free enterprise search product. Seeing as how Microsoft also competes in the space, it's not clear how that relationship could continue. Yahoo also has significant content deals with service providers like AT&T, and the Yahoo brand is run through other companies in parts of Asia, rather than through Yahoo directly.