Editor's Note: The following is a guest column by Roy Shkedi, CEO and Founder of Almondnet, a New York-based media and advertising technology company. The views expressed in this article are his own. TheStreet.com accepts unsolicited manuscripts but will only respond to those it considers publishing. If you would like to submit a column for consideration, please email comment@thestreet.com.

In the wake of Google's ( GOOG) $1.65 billion acquisition of YouTube, many observers have questioned whether the acquisition price can be justified, citing the following uncertainties:

  • The number of advertisement impressions that potentially could be delivered over YouTube.
  • The CPM (cost per thousand) such advertisements could fetch, considering that YouTube's entertainment-related content typically receives lower advertising prices than more lucrative categories such as automotive, travel and finance.
  • The response of YouTube's audience to video advertisements, which are expected to bring in a significant portion of the site's revenue. Will they simply leave in droves to other video sharing sites once those advertisements are deployed on a large scale?
  • Copyright issues that can affect the site's development, as well as that of its peers. (Just last week YouTube deleted nearly 30,000 files after a Japanese entertainment group complained of copyright infringement, according to The Associated Press.)
  • Only a small percentage of visitors to most video sharing sites upload content to them. Could these users be lured away with the promise of a share of the revenue generated from advertisements placed next to their content? Could they be paid if they use copyrighted material as many of them do?
  • Analyzing the above issues and others places a big question mark on the much-ballyhooed acquisition.

    Some have argued that Google acquired eyeballs for the purpose of owning some of the advertising space out there, as companies did in the Internet's early days. I argue, however, that Google could have got a much better deal by buying a combination of content and communication related sites. According to the Online Publishers Association and Nielsen/Net Ratings, people spend approximately 40% of their time online at content sites (i.e., news, information and entertainment sites) and about 40% of their time online visiting communication sites such as Web-based email and instant messaging sites. If Google was interested in merely owning ad space, it could have just purchased Web-based email sites and content sites.

    Yet, despite all of these concerns, the acquisition does make sense -- at least, for Google, it does.

    Google is and wants to remain the premier search destination. Regardless of the kind of content (Web-based text, books, video or audio), Google wants to be the one-stop shop for search, a strategy that is paying off handsomely judging by its stellar third-quarter earnings.

    Why Google?

    The Internet is fragmented, with content scattered on many sites. How do you find what you are looking for? You go to a search directory such as Google. What's the connection to YouTube? A big one. YouTube is the first stop for users' video searches and was beating Google in an emerging search category.

    Approximately 45% of U.S. Web searches are conducted on Google, according to comScore Networks. (The site's global market share is even higher, topping 60%.) But 46% of video-related searches are conducted on YouTube, according to Hitwise. (Google Video, by contrast, has only 11% market share.) Why does someone need to search for a video on a directory like Google when so much great video content can be found in one place, on YouTube? And because YouTube hosts the videos, it can't be circumvented by another party.

    Unlike the majority of the content on the web, videos are not yet widely distributed among many Web sites. While a typical search for information would start with a general search engine, followed by a vertical search engine and then a content site, a search for a video will start on YouTube and end there, because YouTube not only acts as a directory but also hosts the videos. Vertical search engines could be circumvented more easily as they don't own their content, so buying one makes less sense to a general search engine. For example, Expedia ( EXPE) is a directory of hotels and airline tickets, but so is Travelocity, Orbitz and many others. None of them own the airlines' and hotels' sites (which, by the way, are trying to encourage people to buy directly from them).

    To make a long story short, for Google to be the primary search destination for video, it had to buy YouTube. How much is being the one-stop shop for search worth to Google?

    If by buying YouTube, Google became the owner of most video searches on the web, did Yahoo! ( YHOO) and Microsoft ( MSFT) (who are trying to compete with Google in search) make a mistake by not buying YouTube? Time will tell.

    Let me leave you with one more interesting thought: Google can easily monetize entertainment-oriented content that usually fetches lower price ads.

    Since more people search for products and services on Google than any other place on this planet, Google owns the largest repository of so-called purchase-intent profiles in the world. Google could place an anonymous cookies on its visitors when they search and later deliver them relevant video ads on YouTube. For example, a person that searched for "car insurance" on Google could be shown a Geico TV ad the next time he visits YouTube, regardless of what he actually watches on YouTube.

    This form of advertising is called behavioral targeting, and companies like mine and Advertising.com (acquired by Time Warner ( TWX) for $435 million in 2004) are deploying it in the marketplace. Google will leverage its valuable database of searches to convert YouTube's low-value ad space into targeted high-value video ad inventory.

    So at the end of the day, the price Google paid might be justified not only strategically but monetarily.
    Roy Shkedi, CEO and founder of Almondnet, has 14 years of experience in inventing, developing, and implementing interdisciplinary products as well as analyzing and investing in companies. Shkedi holds an MBA degree and an M.Sc. degree in electronic engineering; he received the most distinguished prize in the Israeli intelligence community for an R&D project. Prior to founding AlmondNet, Shkedi was the high technology analyst for Ofek Securities, Israel's largest portfolio manager.

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