Is DoubleClick a Smart Buy for Google?

Google Inc. (NASDAQ: GOOG) purchased DoubleClick for $3.1 billion in cash from San Francisco-based private equity firm Hellman & Friedman along with JMI Equity and management. Google is one of the Top 20 Innovators of The Innovation Index.

According to Google Press Release

"The combination of Google and DoubleClick will offer superior tools for targeting, serving and analyzing online ads of all types, significantly benefiting customers and consumers:

-For users, the combined company will deliver an improved experience on the web, by increasing the relevancy and the quality of the ads they see.
-For online publishers, the combination provides access to new advertisers, which creates a powerful opportunity to monetize their inventory more efficiently.
-For agencies and advertisers, Google and DoubleClick will provide an easy and efficient way to manage both search and display ads in one place. They will be able to optimize their ad spending across different online media using a common set of metrics."

According to Marketwatch story, "DoubleClick had been the subject of speculation about a possible acquisition. In late March, the Wall Street Journal reported that DoubleClick's owners were entertaining offers in the range of $2 billion from a handful of companies, including Microsoft."

Why would Google pay such a steep price for DoubleClick when DoubleClick was having revenue of only about $150 million in all of 2006 and was unprofitable as of April 2005? The acquisition puts DoubleClick's valuation at an astonishing and unheard of 20.66 times gross revenue. In comparison, Google's valuation is 13.7 times 2006 gross revenue. At 13.7 times gross revenue, DoubleClick would have been worth just over $2 billion. Compare this to recent acquisition of WebEx Communications (NASDAQ: WEBX) by Cisco Systems, Inc. (NASDAQ: CSCO) worth $3.2 billion, or 8.4 times 2006 gross revenue. The acquisition also puts tremendous pressure on Google's cash reserves that will deplete from $3.54 billion as of Dec. 31, 2006 to only $440 million. This means Google will not be able to invest freely in people and resources during all of 2007 and possibly 2008, until it rebuilds the cash reserve.

When Google CEO Eric Schmidt was asked about the large price being paid for DoubleClick in the conference call, Schmidt stated: "Google's board of directors felt after a detailed financial analysis (that) it's a very good deal for Google and our shareholders."

Bottomline:

Simply put, DoubleClick's innovative technology and ad platform provides Google an ability to provide display ads from agencies and advertisers. DoubleClick provides a ready-made platform, advertisers and agencies, publishers and relationships that have taken over ten years to build. However, some of these relationships could churn after Google completes the acquisition (case in point, YouTube acquisition and Viacom).

With Google's muscle power and market leading AdWords and AdSense platform though, DoubleClick business will see an incremental growth of possibly 50% to 100% year-over-year in the near future. At least this would be the expectation from Google Board.

This means, Google will see potential incremental revenue of $225 million to $300 million in 2008, $390 million to $520 million in 2009, and $675 million to $900 million in 2010 - so in essence, Google is paying about four times optimistic 2010 potential revenues through DoubleClick acquisition. Is Google being a bit carefree with the cash and money in the bank it has generated with the core business? Or is Google being bold and bullish by staking a key position in online display ad business? Should Yahoo! worry even more about Google? Why wouldn't Microsoft, AOL or Yahoo! pay $3.1 billion for DoubleClick, much less even $2 billion? It appears that a bidding war ensued between Microsoft and Google, and Google rolled the dice and placed a huge bet - perhaps Google did not want to come second in this particular bidding game. Microsoft could have benefited more from the acquisition. However, Microsoft must have found the price tag a bit too much to swallow, and decided to bow out.

On the other hand, DoubleClick acquisition is much closer to the core online Ad business that has made Google. It provides Google a real play against Yahoo!. And Google has the potential to further its marketshare in search advertising through inroads in display advertising. It also means that Google couldn't build out a display ad platform to rival Yahoo! within a given time and budget, and hence chose the acquisition route. Only time will tell on whether Google's lofty acquisition of DoubleClick for $3.1 billion is a Smart Buy. For now, the Google investors could be wary with all the questions, and may prefer a "wait-and-watch" mode until the dust settles. On the other hand, DoubleClick investors are having a big ball.

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