In a deal that has been rumored for some time, MS is attempting to buy Yahoo for a high, but superficially reasonable price. The $41.7B offer is only a slight premium above the current Yahoo market cap of $37.1B, and they only have a chance to get this low a price because of the jitters Yahoo shareholders currently have about the current management.
In some ways it is surprising that a company like MS would be so worried about Google that they would go to such lengths in a defensive move. Google has a lot of momentum, is dominant in the online advertising space and has released some very well liked online services. Microsoft on the other hand is not universally loved, has not done as well as it would liked with the latest release of its flagship product and has had a fairly stagnant share price over the last few years. Microsoft has a wide range of products that their customers are willing to pay money for whereas Google relies on advertising for the majority of its revenue. I know which model I think offers the most long term stability.
So if MS has a number of product lines that history has proven are hard to displace even if they are bad, and Google offers a service with very tenuous hooks on revenue, why is Microsoft worried? MS is also an expert in using their capital to buy other companies. They know the potential that Google has to use its current capitilisation to buy or build some real products that generate hard revenue. The move with Yahoo then makes some sense in a strategic sense. If they manage to keep Google fighting to maintain what they have, Google has less bandwidth to build the future.
Wired has a good breakdown of the numbers.