Google's DoubleClick Buy Makes No Sense

Someone has to say it: This deal boggles the mind.
Author:
Publish date:

I've been going over all the coverage of

Google's

(GOOG) - Get Report

planned $3.1 billion purchase of

DoubleClick

, and there's only one thing I can't figure out:

Why?

Somebody has to say it: This deal makes absolutely no sense. The Emperor of the Internet has torn off his royal raiment and is howling madly down Wall Street. His stock is higher on the news.

Everyone has an opinion on the deal, yet few can agree: Google wants a monopoly on all Internet ads; it's pulling a

Microsoft

(MSFT) - Get Report

on Microsoft itself, cutting the software giant out of the online-ad market; it's recklessly ushering in the return of an Internet stock bubble, etc.

The best explanation seems to be that Google, which two years ago startled the Street by saying it would

move into graphical and video ads, has failed in that goal. Not because of superior technology from the competition, but because Google hasn't won over the deepest-pocketed advertisers.

These advertisers are big on branding -- and while ad banners may deliver fewer click-throughs than text ads, they are much more powerful in shoving a corporate brand into the Internet's face. DoubleClick may be a hoary old ad-banner company, but it has built up a loyal collection of advertisers, some of them the biggest on the Web.

One of the saner explanations of the deal comes from Needham analyst Mark May, who noted that Google had developed its own banner-ad systems, shunning broadly accepted ones like DoubleClick's or

aQuantive's

(AQNT)

. Needham has received underwriting fees from Google in the past year.

"Many advertisers and agencies were reluctant to support an altogether separate network that was unconsolidated from their main ad system, especially when the Google network represented only a small fraction of their campaigns," wrote Mahaney.

The solution: Buy a popular system and integrate it into your own. That will help Google to, as Mahaney adds, "expand into the large, fast-growing, lucrative and strategically important display/rich media ad space." It will also give it ownership of key patents that DoubleClick has had since the infancy of banner ads.

Google's own

Q&A on the deal rebuffs this idea (although it seems to tacitly acknowledge that Google has gained "minimal traction ... on brand advertising efforts"). But the reasons it does give for the purchase are encrypted inside some new corporate techno-speak.

This transaction is nearly as baffling as was Google's $1 billion

purchase of a 5% stake in

Time Warner's

(TWX)

America Online division in December 2005.

But the more you look at the DoubleClick deal, the more similarities appear -- in fact, the DoubleClick buyout may have been an indirect result of the AOL investment: AOL is a key customer of DoubleClick.

Spending $4.1 billion in cash should bring a lump to any investor's throat. Spending it on has-beens that had so much more going for them a decade ago can induce beverages to emerge through nostrils.

AOL broadened Google's reach, but it remains a dying franchise. Adding DoubleClick to the party will slow down revenue growth and weigh down operating profit.

The New York Times

estimated DoubleClick's 2006 revenue at $300 million. Let's compare that with 2004, DoubleClick's last full year before it was bought by private-equity firm Hellman & Friedman. That year, its revenue was $302 million -- above its 2003 revenue of $271 million but flat with 2002 revenue of $300 million.

So Google paid billions for a middle-aged company whose revenue was flat over a two-year period -- heck, it was flat over four years. Google finds itself in the camp of conspiracists who pray the

Times

has got it wrong.

As

Yahoo!

(YHOO)

knows only too well, banner ads are growing around 30% a year, but the text ads found in search results are growing much faster. Even so, the revenue from DoubleClick's technology that is so coveted by Google is growing much more slowly, if at all.

Then there's the added weight on profit. The

Times

said DoubleClick's 2006 EBITDA was 17% of revenue, while its 2004 operating margin was 7%. Either way, it's dwarfed by Google's 33% operating margin and 29% net margin in 2006.

Finally, there are what one might call political considerations with the acquisition. DoubleClick is

routinely labeled by security programs as a pest as common as the cockroach. Why? Because it collects private information with an intimacy criticized by the World Wide Web Consortium. Its cookies are just too nosy.

It's a safe bet that Google will bring DoubleClick's cookies in line with its own practices -- and that it will trumpet this reform as a triumph of the deal. But it's not that simple. Advertisers have taken to DoubleClick precisely because it snoops so well on people. Without that insight, they may go elsewhere.

Which brings us to a second, if sneaky, motive for the deal. Google will merge DoubleClick's data-mining treasure trove with its own information on Web usage. But in doing so, it will be employing data gathered in ways that many of its own employees -- let alone prospective employees -- find offensive.

And that may be a silver lining for Microsoft. Phoning its contacts in the Justice Department may just provoke chuckles -- Google is right when it says there are plenty of online-ad dollars to go around.

No, if Microsoft really wants to hurt Google, the secret lies in its ubiquitous Defender software. Treating all DoubleClick and Google cookies as pernicious spyware would be like setting a phaser from stun to kill.