Microsoft Fears Send Overture Plunging

Updated from 12:46 p.m. EST

Worries about big-customer dependence have dogged Overture Services (OVER Quote - Cramer on OVER - Stock Picks) shares for more than a year. But Wednesday morning they tore into the stock, sending it down almost 20% before an afternoon recovery.

SoundView Technology analyst Jordan Rohan downgraded the pay-per-click search engine company on Wednesday, cutting its price target from $20 to $6. Rohan said evidence indicated Microsoft (MSFT Quote - Cramer on MSFT - Stock Picks) was developing its own paid search technology to replace the paid links Overture is providing to Microsoft Web properties.

The often-volatile stock plunged below $12 before Overture and Microsoft shot down the report. "We think this is a relationship that is not broken, and it's something that doesn't need to be fixed," said Bob Visse, director of marketing for Microsoft's MSN-branded portals and Internet service provider.

Still, given that Overture derived 60% of its revenue last year from agreements with its two largest partners, Microsoft and Yahoo! (YHOO Quote - Cramer on YHOO - Stock Picks), the report fueled long-running investor suspicions that Overture -- a clear-cut operational success in a weak online advertising environment -- is being squeezed by the companies on whose Internet properties Overture's paid search-engine listings appear.

Overture's shares got hammered on what was otherwise a generally positive day for the markets, sliding $1.11, or 7%, to $14.12. Overture's shares traded mostly in the $20 to $30 range in 2002, and traded as high as $31.19 in January.

Tectonic Shift?

In his report, Rohan says that Microsoft is "significantly" increasing its investment in search technology. That view, writes Rohan, has received a "very strong" endorsement from Microsoft senior executives, including CEO Steve Ballmer. The shift was also confirmed by a Microsoft internal memo, says Rohan, though he didn't discuss the specific content of any memo in his Wednesday report. Microsoft is tripling the staff associated with search, says Rohan.

The upshot, says Rohan, is that he believes Microsoft will be developing its own paid search technology, perhaps by the end of 2004, when Overture's current contract to supply paid search listings to Microsoft's MSN.com service expires. Rohan cut his rating on Overture from neutral to underperform; his firm hasn't done investment banking for the company.

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