Yahoo Keeps Its Eyes on Facebook

The Web portal would love to link up with the social networking site, but analysts question the value of the relationship

Is Facebook really worth $1 billion? Analysts easily agree the answer is yes. Whether it's worth that much to Yahoo!, however, is a more complicated question. The Web portal initially offered Facebook $1.4 billion, according to people familiar with the deal. Talks broke down in July, about the time Yahoo shares lost 20% of their value on news that its new targeted advertising technology would be delayed. Sources close to Facebook say there has been no new deal, but discussions could easily resume. Speculation that a transaction may be in the offing surfaced on Sept. 21, after The Wall Street Journal reported that Facebook and Yahoo are in "serious" talks on a deal.

On one hand, Yahoo (YHOO) or any other owner stands to gain considerably from the acquisition. Independent social networking sites, such as Facebook, have become some of the hottest properties on the Web thanks to an ability to engage the large, young Internet audiences with whom advertisers want to develop lasting relationships. Facebook, which lets users swap photos and other information, was started by two Harvard sophomores in 2004 (see, 3/28/06, "Facebook's on the Block"). It has become a top Web destination, with 14.8 million unique visitors in August, 2006, alone, according to comScore Media Metrix. Of those users, 56.6% were younger than 35.

Traffic like that reels in advertising dollars—just ask News Corp. (NWS). The company purchased the popular MySpace social networking site last year for $650 million. In August, Google (GOOG) nearly doubled its investment, promising to pay News Corp. at least $900 million for the right to serve search ads to its audience and potentially offer other forms of advertising in the future (see, 8/8/06, "Google Gets Back Into MySpace"). Yahoo also bid on the property but lost out (see, 8/9/06, "Yahoo's Lost Deal Doesn't Spell Doom").


  Tim Boyd, a research analyst at Caris & Co., says given Google's deal, $1 billion for Facebook is about right. "If you look at what Google paid to be the exclusive provider of advertising, a billion for Facebook looks to be a reasonable price," he says.

The problem for Yahoo is that it may not see the kind of returns from Facebook that Google can reasonably expect from MySpace, which had 45.8 million unique visitors in July, according to Nielsen NetRatings. Google has been wildly successful at luring advertisers with its ability to serve highly targeted ads to online consumers. It made $1.7 billion in net sales during the second quarter of 2006, in part because advertisers trust that it can deliver relevant ads to the right audience (see, 7/21/06, "Google R&D Pays Dividends"). Google can use that trust to cash in on advertisers looking to reach MySpace's demographic.

Yahoo has lagged behind Google in its ability to provide similarly targeted advertising. Its new Panama technology for search-related ads isn't due out until the first quarter of 2007, and advertisers may not be confident that it can similarly home in on Facebook's audience. That's a problem because an increasing amount of the online ad market is moving toward highly targeted advertising. Research firm eMarketer estimates that the market for targeted online advertising will grow from $1.2 billion this year to $2 billion by 2008. The total ad market is expected to reach $17.4 billion this year, according to eMarketer estimates.


  "Google has built tremendous technology—they move very fast and they're very targeted," says Paul Keung, an analyst at CIBC World Markets. Yahoo, on the other hand, has primarily sold ads on the basis of its large reach. "Just by buying this demographic, will advertisers pay them more because they have it?" Boyd agrees, "My opinion is that I don't think anyone is going to monetize things the way Google does. The best that anyone can do is try to prevent Google from gaining more market share."

Defensively, the acquisition makes sense. Yahoo's own social search network, yahoo 360, has failed to take off, and it doesn't want to allow Google or Microsoft's (MSFT) MSN to control the fast-growing space. "Yahoo's 360 network, where they were trying to do video blogs and other things, never really gained a penetration," says Brian Bolan, an analyst with Jackson Securities. "Facebook really comes in with a standard audience."

However, there's no guarantee whether that audience will remain at its current strength or grow. Though it is trying to expand beyond its college market, Facebook's primary audience is still students—and when they leave college they've traditionally migrated to other sites such as MySpace.


  That high turnover means Yahoo would have to labor mightily to ensure Facebook stays hip enough to attract the new crop of college kids, says Keung. "Yahoo is assuming the responsibility of taking that audience that Facebook has today—it doesn't mean that they will capture the next generation," he says. "It has to stay with them when they leave college."

That's a big task. But one that could be necessary if Yahoo is to succeed in expanding its advertising muscle and offering more ad options to various demographics.

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