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The non-exclusive agreement will enable Yahoo to use Google's search and advertising technology to display Google ads alongside its own search results in the US and Canada. The deal, which also applies to current partners in Yahoo's publisher network, covers paid search and content match and does not apply to algorithmic search.

Yahoo hopes the 10-year deal will generate an estimated $250m to $450m in the first 12 months. Yahoo co-founder and chief executive Jerry Yang said that he believed that the convergence of search and display would be Yahoo's next major development in online advertising.

Yang said: "Our strategies are specifically designed to capitalise on this convergence - and this agreement helps us move them forward in a significant way. It also represents an important next step in our open strategy, building on the progress we have already made in advancing a more open market place."

It has been reported that shortly before the deal was made public last night, Yahoo announced it had called off talks with Microsoft - following negotiations that have been on and off since Microsoft made its initial approach in January.

Microsoft's last offer to buy Yahoo outright was for $33 per share that would have valued the company at $47.5bn. The deal with Google also scuppers Yahoo shareholder Carl Icahn's plans to oust the Yahoo board at next month's annual general meeting and restart talks with Microsoft.

Yahoo still has one more mountain to climb, however, as the Google deal is likely to face scrutiny from the US regulatory authorities and the company has voluntarily agreed to delay implementation for up to three and a half months while the US department of Justice reviews the arrangement.