Kate Bulkley, Media Analyst.

Engines of growth

By Kate Bulkley

The Guardian

Monday July 21, 2003

Yahoo!'s acquisition of the search engine Overture is a sign that the battle to dominate the most profitable part of the web is well and truly under way. Kate Bulkley reports

The power of search as a business was confirmed by last week's $1.6bn (1bn) purchase of the search engine Overture by Yahoo!. The deal has got the city types talking again about the potential of the dotcoms and heated up the competition among the biggest portals for the best search solutions. Even the relatively little-known UK-built search engine e-spotting.com was gobbled up last month for $163m by the American company FindWhat.com.

Yahoo! was willing to pay the big bucks for Overture because it is one of the world's biggest paid-for search engines and occupies one of the few areas of the internet to have emerged as a real web business that the advertising world understands and is willing to back. Yahoo!'s acquisition is the most significant indication so far that the banks and the advertising community can put the disastrous days of over-valuations, unrealistic business models and zero profits behind them - the web might just be a good place to be once again.

The impact on the UK internet industry of this deal is just as significant (if not more) as it is on the rest of the web world. And the kind of acquisition that Yahoo! has just completed is probably not the last.

"The real significance of this deal is the amount of merger and acquisition activity that's kicking off and the valuations that are being attached," says Andrew Walmsley, founding director of i-level, the biggest buyer of online media in the UK. "These are big valuations whereas, a year ago, nobody would spit at these companies."

During the boom times, there was capital market growth based on expectations, but now the market demands real numbers, real business models and real income from the internet, and paid-for search is one of the areas that meets the criteria.

Paid-for search - known as sponsored links in web speak - already accounts for 30% of the online ad market in the UK and could be as high as 35% by the end of the year. This compares with the entire UK online ad business, which is forecast by i-level to be on track for a 46% rise this year and reach an estimated 300m. It means that online will still only be 2% of the total UK ad spend, but at least it's on the way up.

Searching the web has been a fundamental part of the online communications revolution, and the earliest leaders in the field were exuberant young companies such as Yahoo!, whose big idea was to create a listings directory.

However, as web fever grew the early search engines wanted to become portals, or destinations for internet users. The next phase was that the portals would add content and become "sticky" so customers would stay there for all kinds of revenue-generating reasons. Then the trend was subscription services inside the portal. But now the business seems to have come full circle with search engines coming back into vogue.

"One of the most popular things to do on the web is directories," says Paul Zwillenberg, associate director of OC&C Strategy Consultants. "Just as TV guides are the highest circulation magazines for the television business, what's on the internet is one of the most popular surfing activities.

"Internet advertising is one of the only growth stories in the UK ad market, and paid-for search is growing like gangbusters," continues Zwillenberg. "While the portals are making progress in selling value-added services, advertising and access are still key components of revenue. So it's logical to focus on the fastest growing and highest margin part of your revenue streams."

How ironic that Yahoo! has returned to its roots with its latest purchase, which has also further complicated the UK's search engine market. It's a sector that has been dominated by Google over the past few years. When consumers click on the Google site, they always enjoy a pure search experience uncluttered by offers of news or sports or all the other home-page content typical of the home page of AOL, MSN or Yahoo!.

In the early days, the web was supposed to be a freewheeling information hub and those that tried to charge for search listings (notably Opentext in the mid-1990s) were criticised. The dream of the initial web advocates was an internet free of blatant commercialism. However, by the time Overture tried this idea again in 1998 (it launched as GoTo.com), the market accepted more easily the idea of listings that had been hoisted to the top of the search results (and highlighted as "sponsored links") by cash payments.

"Consumers are now in favour of the sponsored listing," says Walmsley. "The reason is that when you do a search, you expect the big brands to be at the top of the results and you're disappointed if they're not there. So if you search for 'home electricals', you expect Dixons to come up on page one."

The Yahoo!/Overture deal - which comes only six months after Yahoo! bought another search engine, Inktomi, for $235m - has raised the question of what will happen to Google and the other search engines' businesses, especially in the UK. Some analysts say the pressure is on Google because Yahoo! has now acquired two big search companies in order to increase its search traffic and search revenue. However, other industry observers counter that the price paid for Overture is an expensive sign that Yahoo! is still paying catch-up in the search stakes.

"It's wrong to assume that Google is in trouble from this [Yahoo!/Overture] deal," says Danny Sullivan, the editor of online newsletter searchenginewatch.com. "It's going to make Yahoo! much more competitive, but Google very much still occupies the high ground."

In the UK, Google leads the search-engine league table, according to Nielsen/NetRatings' figures, with 10.35 million unique users per month (latest figures are from April 2003). Yahoo! is second on about 6.5 million, with AskJeeves at 4.5 million and MSN at 4.04 million.

But perhaps the bigger pressure is on the likes of AOL and MSN, neither of which has its own in-house search engine or paid-for listings provider. AOL UK has been happy up to now buying in the services of Google and Overtune, while MSN has been using both Overture and Inktomi to power its search business. Freeserve uses Overture. Now, of course, their biggest portal rival has snapped up two of those three companies.

As the biggest UK portal by page-views, MSN is the company attracting most comment in the wake of Yahoo!'s latest moves. "I'm sure they're saying at MSN that they need to come up with an in-house solution or think about buying Google because it has the best search technology and it has a robust paid search engine as well," says Danny Sullivan of searchengine.com. "It's got to be all hands on deck at MSN."

For its part, MSN says that Yahoo!'s acquisition of Overture has "no near-term impact on its search business" while AOL UK says it's "business as usual" and that its deal with Overture "should remain beneficial to both companies". Freeserve did not return calls.

The cost of buying Google would also probably be exorbitant, as much as $2bn, according to analysts, and Google has no need to sell anyway because of its size and success. However, the UK-originated search engine AskJeeves could be a cheaper buy for someone adopting Yahoo!'s strategy of owning search companies.

So will the consumer in the UK feel any effects of all this search engine consolidation? Well, the analysts say this is mostly a business-to-business deal. However, there might be a growing amount of extra advertising, like pop-ups, that have to be clicked off or through before you can get to your search results.

"This might happen," says Tom Ewing, European market analyst for Nielsen/NetRatings, but he adds a word of warning. "Given that the success of Google has been built on the speed and cleanness of the search for the consumer, an in-your-face strategy of pop-ups and extra advertising might be very risky."


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