Yahoo! Takes Overture

Yahoo! (Nasdaq: YHOO) ended weeks of speculation this morning by announcing the $1.6 billion acquisition of pay-per-click search specialist Overture Services (Nasdaq: OVER). As we told you last month, this move makes a good deal of sense for Yahoo! by bringing the entire search process in-house and giving it more strength in its battle with privately held Google.

Overture is involved in one of the fastest-growing segments of the Internet advertising market. (One source, Piper Jaffray, expects the industry to generate $5 billion in revenue by 2006 -- an annual growth rate of 35%.) To see how the technology works, type the phrase "cell phones" into the search box at the top of this page. Along with the regular listings, you'll see a few "sponsored links" at the top. This lucrative real estate goes to the companies that bid the most for various search terms. As I write this story, AT&T Wireless (NYSE: AWE) is paying Overture $1.19 each time a user clicks on its link. (You can find this information on Overture's website.) A1 Wireless, listed second, is paying $1.18 per click. Overture shares that revenue with its many partners, in this case with The Motley Fool.

Yahoo! is also a partner, and along with Microsoft (Nasdaq: MSFT), accounted for 65% of Overture's revenue in the first quarter of this year. That reliance on a few customers, in addition to increased competition from Google, are major reasons the stock price is down over 10% this year.

Similarly, Yahoo! relied on Overture for 19% of its total revenue during the same period, and the world's top portal was not comfortable being that dependent on any one company. While some speculated that it was looking to develop its own pay-per-click model, in the end it made more sense to buy a proven, profitable leader.

The deal calls for Yahoo! to pay $4.75 in cash and 0.6108 of a share for each share of Overture -- a 13% premium for Overture stockholders. Considering Yahoo!'s share price has soared over 80% this year, it was a shrewd move to pay for more than half of the acquisition with its stock.

Might we see more consolidation in the industry? The market seems to think so, with shares of Looksmart (Nasdaq: LOOK) soaring 20% on speculation of a possible bid from partner Microsoft.