What Were You Thinking, Microsoft?

Who says that incumbents are doomed this year?

AOL (NYSE: AOL  ) has decided to re-up with search partner Google (Nasdaq: GOOG  ) for another five years -- and this time around, they're expanding their relationship.

This partnership originally seemed to be headed nowhere. Google paid $1 billion for a 5% AOL stake in 2005, securing the original deal in the process. The world's leading search engine eventually dumped that stake at a loss, and AOL's current enterprise value of roughly $2 billion shows that it's worth just a tenth of the implied $20 billion price tag at which Google bought in five years ago.

In a nutshell, AOL's real estate is less valuable than when the first deal was drafted. However, AOL remains a traffic magnet. It still runs one of the more popular portals, serving up a ton of page views. Google still can't afford to yield that turf to Microsoft (Nasdaq: MSFT  ) or Yahoo!.

Where was Microsoft's Bing in all of this, by the way? I figured that Microsoft would leap to overpay for the right to gnaw away at Google's industry-leading market share, by either fulfilling AOL's search needs or just swallowing down AOL whole.

Surely, Microsoft can't believe that it can take on Google with only the Yahoo! deal under its belt. Its 2007 deal with Facebook was a move of visionary brilliance, so making a play for AOL's eyeballs should have been a no-brainer.

It takes a lot of gumption to renew a five-year deal in these fast-changing times. The same crux is taking place at Sirius XM Radio (Nasdaq: SIRI  ) , where Howard Stern's five-year deal runs out in December. However, while Sirius XM has grown substantially in five years, AOL's relevance has faded.

We can place the blame on AOL's original access business, which sheds subscribers on a quarterly basis. AOL figured that it could make up for the defections with higher-margin online advertising, but drawing a crowd isn't all that easy when folks don't have to start their surfing sessions on your landing page. Even IAC's (Nasdaq: IACI  ) Ask.com is a more powerful player in search these days.

However, the new five-year deal expands on the original terms to cover mobile search as well. AOL will also feed original content to Google's YouTube.

How can a cash-rich Microsoft allow this to happen? Its Bing search engine simply can't afford to miss more opportunities like this one.

Is this more a victory for Google than a defeat for Microsoft? Post your thoughts in the comment box below.

Google and Microsoft are Motley Fool Inside Value choices. Google is a Motley Fool Rule Breakers recommendation. Motley Fool Options has recommended a diagonal call position on Microsoft. The Fool owns shares of Google. Try any of our Foolish newsletter services free for 30 days

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Longtime Fool contributor Rick Munarriz wonders whether AOL will ever party like it's 1999 again.  He does not own shares in any of the companies in this story. He is also part of the Rule Breakers newsletter research team, seeking out tomorrow's ultimate growth stocks a day early. The Fool has a disclosure policy, and it's got mail.  


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  • Report this Comment On September 02, 2010, at 4:43 PM, razzamatazzer1 wrote:

    I used Bing,when it paid me for search.Before that,I used Yahoo!.I was adamant about not using Google,because they "spy" on my searches and serve up ads accordingly.I have since found Swagbucks.It pays you for searching in "swagbucks", that can be used to redeem for electronics/etc.I feel that we as consumers,that we should get paid for our searches,(instead of) or alongside the search and advertising companies....it is only fair and right.

  • Report this Comment On September 02, 2010, at 4:57 PM, JPDemers wrote:

    People still use AOL?

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