We believe the Microsoft Yahoo (MSFT / YHOO) acquisition will be a disaster. So far, in support of this conclusion, we have cited integration, execution, and operational challenges. Now it’s time to look at the bigger picture. The Yahoo acquisition is also cursed because it is predicated on a colossal strategic mistake: Microsoft’s misguided conviction that needs to be in the advertising business.
Microsoft wants to buy Yahoo in part because it wants to develop a global “cloud computing” platform. This, at least, is smart. The business of installing and maintaining software on local servers and PCs is giving way to web-based apps served from data centres (cloud computing), and Microsoft, sensibly, doesn’t want to miss that train. (See today’s NYT article).
Cloud computing appears to be a classic disruptive technology, one that will likely end up maiming or killing incumbents like Microsoft. That said, buying Yahoo is not the cheapest or smartest way for Microsoft to break into the cloud computing game. More importantly, it also commits Microsoft even more deeply to a business–ad-supported Internet media–that it simply doesn’t need to be in.
In short, the threat to Microsoft from Google et al is not “free software.” Consumer software is going free, but Microsoft doesn’t make much money from consumers. The threat to Microsoft is “cheaper corporate software.” And that’s where cloud computing comes in.
Microsoft’s Misconception: “Cloud Computing” = Software Supported By Advertising
The problem is the way Microsoft has always framed the “cloud computing” transition:
- paid desktop software licenses giving way to
- free web-based software supported by advertising.
This framing is wrong. It has also led Microsoft to believe it has no choice but to compete with Google in search and to buy Yahoo, aQuantive, et al, to beef up its advertising platform.
A better way of thinking about the “cloud computing” transition, in our opinion, is:
- paid desktop licenses giving way to
- paid web-based licenses
In this framework, today’s stark differentiation between the “Corporate” and “Consumer” markets doesn’t change. “Advertising,” moreover, has nothing to do with it–except on the Consumer side, which is far less important a market to Microsoft than it is to Google and Yahoo.
The Reality: Corporations Are Still Paying licence Fees
Corporations are shifting to cloud-computing platforms–Software as a Service vendors like Salesforce.com and NetSuite, Google Apps, etc–but, for the most part, they are not shifting to “free software supported by advertising.” On the contrary, they continue to pay fat, per-employee licence fees. Even some corporations running Google Apps pay licence fees. The fees are lower than the per-seat costs charged by Microsoft, but they’re in the same same ballpark (according to the NYT, big companies pay about $75 per Office seat per year vs. $50 for Google Apps).
What hurts Microsoft in this market transition, in other words, is not the growth of free consumer-based software apps supported by advertising (these constitute only a small fraction of Microsoft’s licence revenue). Rather, it is the invasion of the corporate market by cloud-based app vendors like Google Apps, Yahoo’s Zimbra, Salesforce.com–as well as non-Windows based PCs sold by Apple.
Microsoft desperately needs to get its own cloud-based Office business up and running before it loses more share to Google. (Office Live has been years in the making, and it still inferior to Google Apps.) But this doesn’t mean that Microsoft has to buy Yahoo and become a titan of online advertising.
Put differently, the part of Google that threatens Microsoft’s core Windows and Office business is Google Apps, not Google Search. If Microsoft buys Yahoo, it will get Zimbra (a company that sells free and paid email and office productivity apps that compete with Google Apps), but it will also get–and pay for–an $8 billion global advertising business that it doesn’t need to be in. The distraction of integrating and running this business will make it less likely that Microsoft will successfully build out Office Live.
Back in 1995, Microsoft decided that it had to compete in the consumer Internet media business. This was a mistake then, and it’s a mistake now–which is why Microsoft has struggled and failed to gain headway in that business for 13 years. Now, Microsoft has decided to double down on that business by buying Yahoo, in part because it believes its crown jewel, the corporate desktop software market, is transitioning to “software supported by advertising.”
Corporate applications will never be supported by advertising, and if Google really wants to unseat Microsoft’s Office monopoly, it will have to build up the same sort of corporate sales and service organisation that Microsoft already has. Microsoft should stop trying to go into a business it doesn’t have to be in–advertising-supported consumer media–and concentrate on protecting the core corporate business it already rules–by committing wholeheartedly to Office Live.
One big step toward doing this? Radically changing the Yahoo deal. Microsoft should merge its Internet advertising assets with Yahoo in a much smarter Yahoo transaction–and then invest $5 billion in building out a global cloud computing platform to support Office Live.
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