The US justice department had been reviewing the agreement, announced in June, and said yesterday it had informed both companies it would file a suit to prevent its implementation.

The deal meant more to Yahoo and its embattled management team than Google. In a statement, Yahoo said it was “disappointed that Google has elected to withdraw from the agreement rather than defend it in court”.

Yahoo had been seeking to placate shareholders dissatisfied with its performance with the promise of significant revenues from the deal, which is in addition to merger talks with Time Warner for its AOL division. With the Nasdaq down 3 per cent in midday trading, Google shares were off 4.75 per cent, while Yahoo's gained 6.3 per cent to $14.19 on speculation that Microsoft would now return with a takeover offer.