By Eric Auchard and Tiffany Wu

In what would be the biggest Internet deal since the ill- fated Time Warner-AOL merger, Microsoft sent a letter to Yahoo's board on Thursday night to offer $31 per share in cash and stock.

The price is a 62 percent premium over Yahoo's Thursday close, but only about a quarter of what the Internet company was worth at the height of the dotcom bubble in 2000.

Yahoo would give Microsoft dominance in Web banner ads used by corporate brand advertisers. It also attracts more than 500 million people monthly to sites devoted to news, finance and sports, and Yahoo Mail is the No. 1 consumer e-mail service.

But critics say the two companies have too many overlapping businesses -- from instant messaging to email and advertising, as well as news, travel and finance sites -- and both are weak in the Web search market, where Google dominates.

"They have to do it because they've tried everything they can do to fix MSN. Yahoo is the most visited site in the world, so it goes without saying that, given the current valuation, this is the perfect time for them to buy it," said Piper Jaffray analyst Gene Munster.

But he added: "Google is running away with the search market and that's obviously the best part of the market. The likelihood that Google gets caught is slim to none."

Yahoo said on Friday its board will evaluate the unsolicited offer. Its shares shot up about 48 percent to $28.33.

Microsoft shares, which have a market capitalization of about $300 billion, fell 6.6 percent to close at $30.45. The shares of Google, which has a market value of about $160 billion, fell 8.58 percent to close at $515.90.

TRANSFORMATIVE OR CULTURE CLASH?

Speculation about a Microsoft-Yahoo deal has swirled through the markets for more than a year, as investors looked for a joint stand against powerful Google, which has a 77 percent share of the global Web search market. Yahoo is second with 16 percent and Microsoft is third with 3.7 percent, according to comScore data.

Skeptics say Microsoft and Yahoo have very different corporate cultures and worry about a clash such as the one that marred AOL's $182 billion purchase of Time Warner in 2001, which is seen as the worst merger in recent history. Time Warner Inc is now valued at only $57 billion.

The perception is that Yahoo, an iconic Silicon Valley company with a free-flowing, fun-loving attitude, may not fit in with the button-up, competitive Microsoft, the world's biggest software maker.

"Culture is the big thing where people have some concerns," said Jupiter Research analyst Bobby Tulsiani. "If they have anything in common, they're both tired of losing to Google, so they can agree on that probably."

Microsoft Chief Executive Steve Ballmer said the deal would transform its money-losing Internet division, which it sees as critical to growth, into a profitable pillar of its business.

Ballmer said Microsoft has had on-and-off talks with Yahoo for 18 months, but was told by management a year ago that the timing was not right -- in an apparent reference to Yahoo's then Chairman and Chief Executive Terry Semel.

Semel was replaced by Yahoo co-founder Jerry Yang as CEO in June and resigned as chairman on Thursday.

"With the Semel roadblock now gone, there is reason to think this (merger) is now likely to happen," said RBC Capital Internet analyst Jordan Rohan, noting Yahoo is running out of options in the face of a weakening business climate.

RICH VALUATION

Under the proposal, Yahoo shareholders can choose to get $31 cash, or 0.9509 of a share of Microsoft common stock. The deal in aggregate must consist of one-half cash and one-half Microsoft common stock, the software maker said.

Microsoft's current stock price values Yahoo at around $30, or a rich 57 times forecast 2009 earnings. In comparison, Google is trading at around 20 times forecast 2009 profit.

Some analysts said Microsoft was overpaying for a company that warned earlier this week it faced "head winds" in 2008, forecasting revenue below Wall Street expectations.

"To me, the premium seems exorbitant, for what is a dwindling business. I personally don't see how the synergies of Microsoft-Yahoo is going to take on Google," said Tim Smalls, head of U.S. stock trading at brokerage firm Execution LLC.