May 20 -- Microsoft Corp., the software maker that scrapped a $47.5 billion bid for Yahoo! Inc. this month, may forge a partnership with the Internet company in the search- advertising market to challenge Google Inc.

Microsoft, which abandoned its takeover attempts May 3, said yesterday that it's exploring a transaction with Yahoo and may renew attempts to buy the entire company. The two may combine units that sell ads that run next to Internet search results, said Morningstar Inc. analyst Toan Tran.

Billionaire investor Carl Icahn is pressuring Yahoo to ally itself with Microsoft to compete with Google, which dominates the Internet search market. Icahn, backed by investors such as hedge- fund manager John Paulson, plans to oust Yahoo's board if Chief Executive Officer Jerry Yang fails to sell to Microsoft.

``Carl Icahn is in this to make a quick buck, so whatever helps him make money he'll be happy with,'' said Tran, who is based in Chicago and doesn't own shares of either company. ``What Carl Icahn definitely wants is an outright sale of Yahoo to Microsoft at some price higher than what it is now.''

Microsoft has offered to buy Yahoo's search unit and take a minority stake in the company after Yahoo gets rid of its holdings in Asia, Reuters reported today, citing a person familiar with the talks. Microsoft spokesman Frank Shaw declined to confirm or deny the report, while Yahoo spokeswoman Diana Wong declined to comment.

Microsoft, based in Redmond, Washington, fell 53 cents to $29.46 at 4 p.m. New York time in Nasdaq Stock Market trading. Sunnyvale, California-based Yahoo rose 2 cents to $27.68, while Google dropped $2.55 to $577.52.

Better Position

The new talks may bring Microsoft closer to a full acquisition of Yahoo, said Mark May, an analyst at Needham & Co. in New York. Today, he changed his recommendation on Yahoo's stock to buy. He had advised clients to hold on to the shares since April 2007.

``Microsoft sees an opportunity where their negotiating position has improved,'' May said. ``They clearly have some very large shareholders on their side now and they realize that they can make some moves.''

Icahn, 72, owns 10 million shares and options to purchase 49 million more. He proposed a slate of board nominees last week including Dallas Mavericks owner Mark Cuban and former Viacom Inc. CEO Frank Biondi Jr. Icahn didn't return phone messages today.

Support for Icahn

Paulson said last week he would back Icahn's slate and that he was disappointed Yahoo didn't reach a deal with Microsoft. Paulson & Co. owned 50 million shares of Yahoo as of March. All 10 of Yahoo's directors are up for re-election at the annual meeting July 3.

Both Yahoo and Microsoft trail Mountain View, California- based Google in Internet search traffic. Together they account for about a third of total Internet searches in the U.S., or about half the share Google has, according to research firm ComScore Inc.

Google CEO Eric Schmidt and co-founders Larry Page and Sergey Brin are meeting in Britain to discuss Google's response to the Microsoft talks with Yahoo, according to a British Broadcasting Corp. report. They were traveling to attend an event for the company's European operations, the BBC said. Google representatives didn't immediately respond to an e-mail.

Various Options

Microsoft and Yahoo have several options to work together, analysts said. Yahoo may allow Microsoft to sell some of the ads that accompany Internet searches, with both sharing in the revenue. One company could sell its Internet search unit to the other, or the companies could unite them in a joint venture.

Microsoft will eventually have to buy all of Yahoo if it wants to compete with Google, said Gene Munster, an analyst at Piper Jaffray & Co. in Minneapolis. By July, Microsoft will reach an agreement to buy Yahoo, either with Yahoo's current board or with Icahn's replacements, he said.

``It's going to happen just because it has to happen,'' said Munster, who has a neutral rating on Yahoo shares. ``Microsoft needs it too much.''

Microsoft is investing more in Europe and pursuing smaller acquisitions, Kevin Johnson, president of the Internet business, said yesterday in a memo to employees.

``The fact is that we are not where we want to be in this business yet and we've been in this position longer than we'd all like,'' Johnson said.

Google Accord

Since Microsoft's initial offer, Yahoo's Yang has tried to prove to investors his company can successfully compete without help from Microsoft, the world's biggest software maker.

Yahoo said in April that it would use Google's technology for placing advertisements next to relevant search results on a trial basis. Google made as much as 70 percent more in sales from each query at the end of last year, Yahoo has said.

People familiar with the talks said this month that Google and Yahoo are still examining a partnership. Coming to a similar deal with Microsoft may help Yahoo win approval from regulators for a partnership with Google, since Yahoo's search engine would also strengthen Microsoft's position in the market, said Youssef Squali, a Jefferies & Co. analyst in New York.

``For Yahoo's board and management, it gets Microsoft off of their back and keeps the company independent,'' Squali said in a report today.

Editor: Haijing Qu