The search alliance between Yahoo (NASDAQ:YHOO) and Microsoft (NASDAQ:MSFT) could boost average search ad rates by 78% measured on a cost-per-click (CPC) basis, according to a recent study by digital media services company GroupM.
The study also predicts that long-term CPC rates will stabilize at 13% to 23% above current levels.The higher rates would reflect the fact that the alliance gives advertisers a bigger search platform to reach consumers.
Yahoo and Microsoft announced their search alliance in July 2009. It received the necessary regulatory approvals early this year. According to the terms of the 10-year deal, Yahoo will use Microsoft search technology for search, while receiving 88% of search revenues generated through its own sites during the first five years.
If the GroupM study is right, we see a potential 2% upside to our $19.04 stock price estimate for Yahoo’s stock, We see negligible upside to our $28.06 price estimate for Microsoft. Our analysis follows below.
Impact on Yahoo and Microsoft stock
We estimate that search advertising constitutes 21% of Yahoo’s stock value, versus 1% of Microsoft’s stock. Hence Yahoo shareholders stand to gain the most from rising search ad rates. For its part, Microsoft hopes to leverage the increased search market share that it gained from allying with Yahoo to compete effectively against Google (NASDAQ:GOOG). Google is the overwhelming leader in the search advertising market with a global share of 65%, versus 10.4% for Yahoo and 9% for Microsoft.
We expect Yahoo’s revenue per search, a key metric in the online advertising industry, to rise modestly during the Trefis forecast period, from $20.60 per 1,000 searches in 2009 to around $21.20 per 1,000 searches by 2016. (Revenue per search equals cost-per-click times the click-through rate.) You can drag the trend-line in the chart below to create your own revenue-per-search forecast for Yahoo and see how it impacts the company’s estimated stock price.
If GroupM’s predictions pan out, Yahoo’s average CPC rates could increase by 11% to 20%. In this scenario, Yahoo’s average revenue per search could reach $24 or even $26 by 2016, instead of the $21.60 that we currently forecast. This scenario suggests an upside of between 2% to 4% to Yahoo’s stock.
Applying the same assumptions to Microsoft’s search business yields little or no upside for the stock, primarily because search contributes a tiny share of Microsoft’s total revenues.