Should Microsoft fling Bing, and swap its search-engine operations for Facebook shares?
It may sound crazy, but not to software analyst Rick Sherlund of Nomura Securities. "Most investors I talk to are asking why Microsoft is in the search business, anyway," Sherlund says. Microsoft (ticker: MSFT) racks up $2 billion to $2.5 billion a year in operating losses running Bing, which is No. 2 in search engines, behind Google (GOOG). Those losses equate to about a 7% ding to annual operating margins. A vocal minority of Microsoft shareholders, many of them value investors, would love to see Microsoft exit search.
The idea, floated by a CNBC commentator last week, goes like this: Microsoft would turn Bing over to Facebook. Microsoft could receive Facebook shares, currently worth two times Bing revenues, roughly $4 billion, which Sherlund posits as a 4% stake. Microsoft currently owns a 1.6% stake in Facebook, a company that is expected to be valued at as much as $100 billion after its initial public offering later this year. Of course, Facebook might want to wait until after the IPO to see what its shares are actually worth.
The transaction would still allow Microsoft to achieve the two primary objectives behind its current ownership of Bing: making money off its Internet traffic and preventing Google from monopolizing search advertising.
Sherlund suggests that Microsoft could receive around 80% of the Bing advertising revenue generated by traffic from Microsoft sites, such as Xbox Live, through so-called traffic-acquisition costs. "Microsoft doesn't have to own its own search engine in order to monetize traffic," Sherlund explains. "You would be making money and have zero cost."
Microsoft's other objective would still be met if Facebook were to take control of the search engine. In fact, Bing would probably become a stronger rival to Google in search advertising. "Facebook has all of this rich data about its users to present better search results," Sherlund explains, adding that the prospect has Google "quite worried."
Why is Microsoft in the search business to begin with? "It's because they want to keep Google from having such monopoly power [in search] that they can use the resultant profit to make forays into Microsoft's domain," Sherlund explains, with such things as Google's Chrome operating system and Android smartphone software.
Microsoft has also long insisted that being in Internet search is integral to its long-term viability, explaining why it was willing to pony up as much as $37 a share to acquire Yahoo! (YHOO) in 2008. (No deal was done.) It currently shares search-advertising revenue with Yahoo!, which presumably would also fare better under a Facebook-run Bing: If that gig brings higher revenues to MSFT, Yahoo! benefits, too—through its sharing deal with MSFT.
Sherlund isn't aware of any plans or discussions between Facebook and Microsoft. Both companies said they don't comment on deal rumors. The notion of Microsoft swapping Bing for Facebook shares was suggested in a recently published digital book entitled The Facebook IPO Pitch, which was written by an anonymous author claiming to be an Internet-marketing insider.
Sherlund has a Buy rating and a target of $37 on Microsoft, which closed Friday near $31. Nomura is not an underwriter participating in the Facebook IPO. Sherlund admits that the swap might be merely hypothetical, but adds: "It's a really nice idea."
E-mail: mark.veverka@barrons.com
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