After two years of crumbling profits, Yahoo Inc. can't afford another letdown Tuesday when the Internet icon reports its first-quarter earnings. Although they only cover a three-month period, the results could determine the Sunnyvale-based company's fate as it grapples with an unsolicited takeover offer from Microsoft (web|news|quote) Corp. p> If Yahoo bounces back to exceed analysts' modest expectations, it could be a springboard to a higher bid from Microsoft or provide more credence to management's argument that the company will be better off remaining independent. But a disappointing quarter would intensify pressure on Yahoo to accept Microsoft's cash-and stock offer, which was worth about $43 billion, or $29.99 per share, as of Monday's trading.

A lackluster performance might even cause Microsoft to lower its bid, a move that almost certainly would provoke a wave of lawsuits from angry shareholders who thought Yahoo should have accepted the offer when it was first made nearly three months ago.

Microsoft so far has insisted its initial bid is fair and has threatened to initiate an attempt to oust Yahoo's board if the 10 directors don't accept the offer by Saturday. This option, known as a proxy contest, might drag the saga into mid-July.

A solid first quarter would make Microsoft's threat less imposing because more Yahoo shareholders might side with the board's thesis that the company is rebounding and will likely be worth a lot more in the months ahead.

Since 2005, Yahoo's quarterly earnings reports have been mostly dismal affairs marked by eroding profits, disappointing revenue growth and promises of a turnaround that hasn't emerged.

But most analysts seem to think Yahoo will top their average earnings estimate of 9 cents per share, especially after rival Google Inc. electrified Wall Street late last week with a 30 percent increase in first-quarter profit.

Yahoo management signaled last month the company was on track to hit its first-quarter earnings projections.

Unlike Google, the bar hasn't been set high for Yahoo. The 9 cents per share earnings estimate among analysts surveyed by Thomson Financial represents a slight decline from 10 cents per share that the company made at the same time last year.

Google's first-quarter performance probably gave Microsoft even more incentive to buy Yahoo quickly because further delays will better position Google to widen its lead in the Internet search and advertising market, Collins Stewart analyst Sandeep Aggarwal wrote in a Monday note to investors.

Microsoft views Yahoo as a key weapon in its effort to catch up to Google.

Aggarwal believes Microsoft will boost its Yahoo bid to $33.50 per share, or about $48 billion, to get the deal done more quickly. Other analysts say Microsoft can afford to pay as much as $35 per share, or about $50 billion.

Redmond, Wash.-based Microsoft will update its own finances Thursday when the software maker is scheduled to release fiscal third-quarter results.

Besides reviewing its first-quarter results on Tuesday, Yahoo management also is expected to provide more details about an experimental advertising partnership with Google. The two-week trial is supposed to wrap up Wednesday.

If Yahoo decides to pursue a long-term relationship with Google, it could lift Yahoo's profits and pave the way for possible merger with Time Warner Inc. (TWX)'s AOL, another Internet pioneer that has been stuck in a funk for years.

Yahoo and AOL reportedly have been in discussions about a possible combination for months. Google owns a 5 percent stake in AOL.

Sanford C. Bernstein analyst Jeffrey Lindsay thinks the moneymaking potential of long-term deal between Yahoo and Google could propel Yahoo's stock price beyond $40 - a level it hasn't reached in more than two years. Yahoo shares stood at $28.55, up 12 cents, in late trading Monday.

But other analysts doubt antitrust regulators will let Google and Yahoo join forces, given the two rivals control more than 80 percent of the U.S. search market. In contrast, a combination between Microsoft and Yahoo would hold about 31 percent of the search market - still well below Google's 60 percent share.

Still, the mere prospect of other Yahoo alliances might be enough to cause Microsoft to boost its bid if Yahoo delivers in the first quarter.

"Yahoo has done a lot of dumb things in this process, but they have been pretty smart lately," said Darren Chervitz, director of research for the Jacob Internet Fund, which owns a stake in Yahoo. "When you get down to it, this is all about squeezing a few more dollars out of Microsoft."

Written By MICHAEL LIEDTKE

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