Yahoo! Inc. (YHOO)’s Acquisition Of Tumblr Is A Calculated Risk

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Yahoo! Inc. (NASDAQ:YHOO) recently announced the acquisition of blogging company Tumblr for $1.1 billion. Soon after the announcement, media pundits followed up with a lot of criticism over the amount Yahoo has offered to pay for the acquisition. The deal will see Yahoo part with at least $1.1 billion in cash, for the company that has approximately 108 million blogs as of May 20, 2013.

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Analysts believe that the first challenge to Yahoo! Inc. (NASDAQ:YHOO) would be to convert the 300 million plus unique monthly visitors of the blog into revenue. However, this challenge is not new to Yahoo. The search engine laggard, among other internet-based companies that rely on advertisement revenue to some extent, has been facing the challenge of monetization of traffic. Google Inc (NASDAQ:GOOG), Facebook Inc (NASDAQ:FB), and LinkedIn Corp (NYSE:LNKD) have experienced such problems, with the transition to mobile being the hallmark of the whole quandary.

It's a risky deal

Yahoo! Inc. (NASDAQ:YHOO)’s acquisition of Tumblr is seen as a risky deal, partly due to the amount changing hands, and, secondly, due to the company’s history in acquisitions. Yahoo will be paying a total of $1.1 billion in cash for a company that has never been subjected to the scrutiny of the public eye. Deals that involve the exchange of huge sums of cash have, in the past, proved to deliver below expectations with Yahoo being a perfect candidate.

In 1999, Yahoo acquired GeoCities for $3.6 billion, only to close shop a few years later. In 2008 and 2009, GeoCities lost a gigantic amount of subscribers, believed to be around 27 million. In 2005, Yahoo! Inc. (NASDAQ:YHOO) was, yet again, involved in another major acquisition, buying the photo-sharing social network Flickr for $40 million. The acquisition has since failed to materialize, according to analysts. Two years before that, the company had acquired Overture Services for $1.63 billion, specifically meant for search engine marketing, an area in which it lags behind Google Inc (NASDAQ:GOOG) and Facebook Inc (NASDAQ:FB).

Tumblr is also known to host x-rated content, which might raise a red flag for advertisers. Users, on the other hand, are unlikely to take the ads lying down, thereby affecting traffic.

The risk is well calculated

Yahoo! Inc. (NASDAQ:YHOO) is simply doing the right thing with its cash by gambling with $1.1 billion on some 300 million additional unique visits on its site. Yahoo search is believed to attract about 160 million unique visits per month. Marissa Mayer has expressed that the company will incorporate Tumblr content on its news feed, which should bolster search visits. Tumblr brings at least 100 million users to the table, based on the 108 blogs, which, if translated based on Yahoo’s average revenue per user of $8 (Marketing Science Dec 2012), could amount to about $800 million in revenue per year.

Additionally, there are other synergies, which include addressing the youth-dominated market efficiently, while providing bloggers with wider reach. Yahoo! Inc. (NASDAQ:YHOO) has several sites, search being one of them. Besides that, there is Yahoo Finance, Yahoo Sports, and Yahoo Voices, among others. The integration of Tumblr content to appear on Yahoo News feed will widen the overall addressable market, which will form a basis for a successful ad campaign. This will be critical in solving the monetization puzzle.

The benefits

Social networking is becoming the backbone of advertisements, with user engagement being the main item in focus. Facebook Inc (NASDAQ:FB) holds the record in terms of user engagement, followed by Google Inc (NASDAQ:GOOG) and Microsoft’s Bing. Earlier, in January, Marissa Mayer did express that Yahoo’s biggest challenge was user engagement. The acquisition of Tumblr will aid in overcoming that quandary. Yahoo is looking to follow the example of the two market leaders in its bid to build a strong social platform.

Facebook acquired Instgram to aid in photo-sharing on its platform, an acquisition that has paid dividends handsomely. It is believed to bring about $500 million-$700 million in revenue annually. Facebook acquired approximately 80 million Instagram users when it bought the company for $1 billion, but that number is now well above 100 million. Besides the direct revenue generation via ads, Instagram has also helped Facebook grow its monthly active users to, what is believed to be, approximately 1.1 billion.

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