Ben & David dive deep into the early days of internet search, with the help of the best in the internet history business: Brian McCullough from the Internet History Podcast! We are huge fans of IHP at Acquired, so this was a real treat to collaborate with Brian and the great work he does over there. In this episode we cover the story of how a small incubator in Southern California spawned perhaps the greatest tech business model of all-time, Yahoo!'s fumbling of that golden opportunity, and Google's recovery of that fumble to cross into the end zone of tech history behind the biggest moat ever constructed on the internet.
Topics covered include:
The Carve Out:
Full Transcript below: (disclaimer: may contain unintentionally confusing, inaccurate and/or amusing transcription errors)
Ben: Brian, have you ever had to cancel an episode, like mid episode because something was going wrong and it was just unrecoverable?
Brian: Yes. Actually, the one that was the worst that I still released was, ironically enough, the guy that invented the MP3.
Welcome back to episode 33 of Acquired, the show about technology acquisitions and IPOs. I’m Ben Gilbert.
David: I’m David Rosenthal.
Ben: And we are your hosts. Today we’ve got a great guest with us, Brian McCullough from the Internet History Podcast. We are huge, huge fans of Brian’s podcast here on Acquired, so super, super pumped to have him joining us today. We’re doing a double episode so you’ll be able to hear a version of this episode on Brian’s podcast as well. And today, we will be talking about the valley-shaping acquisition that happened in 2003, of Yahoo acquiring overture.
Now before we go to Brian, here’s a quick word from this episode’s sponsor, Silicon Valley Bank:
Silicon Valley Bank is the go-to bank for startup founders when they get funding. What’s something that you guys do or offer that most people don’t know about?
“Yeah. Most people do recognize that we are really good at the early stage and can provide debt financing and other solutions that other financial institutions won’t at that stage. But what people I think lose sight of because we’re so strong at the early stage is the fact that we’re working with something like 50% I think of the number of companies that went public in the innovation economy over the last year. We’re working with a lot of late-stage companies and putting together very large transactions for big multinational companies that have scaled over the years and folks lose sight of that a little bit.”
Great. Thanks, man.
Now without any further ado, over to you, Brian.
Brian: Guys, thanks for doing this crossover. So yeah, today we’re going to be talking about an interesting acquisition story – interesting in the sense that it’s not just one company acquiring another because there’s a huge major third player that comes into the story. But we’re going to talk about Yahoo acquiring GoTo.com which at the time of acquisition was known as Overture.com.
So, to set the acquisition groundwork here, GoTo.com was a company that came out of an incubator in the late 1990s. Incubators were hot during the dot-com era. One of the hot ones –
David: What’s old is new again these days.
Brian: Exactly. The incubator we’re talking about was called Idealab which was founded by a man probably most of you know by the name of Bill Gross. Idealab generated a couple of different companies: CarsDirect.com, Net Zero (the free ISP, if you remember that, for back in the day), the infamous eToys.com came out of Idealab. But probably the most successful company to be incubated at Idealab was GoTo.com. I believe this was 100% Bill Gross’ brainstorm. What GoTo was, was a glorified search engine where the results of a search were generated not by an algorithm based on accuracy or what you’re searching for necessarily but was actually, the results were generated by bids from advertisers. So if you went to GoTo.com and you searched for flowers, the #1 search result would be brought up, paid for by an advertiser that had bid the most for that ad. So essentially –
David: That’s one that, you know, doing research for this show, is just so crazy to even think about today but there were no organic search results, like everything you saw on GoTo.com and then later in Overture we’ll talk about how they shifted their product and business models was an ad. It would be like Google but without the organic search results.
Brian: Right. I think they might have back-fed some organic search results from somewhere else. They would have had to especially at launch since they wouldn’t have had enough advertisers to cover everything. But yeah, it’s basically Google but all ads.
Ben: So basically, Google these days, right?
Brian: Yeah. Believe me, from someone that still owns a business that gets a lot of my business from paid search, I know what you’re talking about. It was controversial especially at the time. I mean, we’re laughing looking back at it now. But this was completely antithetical to everything that people thought search should be. Bill Gross announced and launched GoTo.com at the TED conference in 1998. A funny side listeners to my show know that I’m associated with TED, I’ve been working with them for the last year or so: they don’t mention Bill Gross by name but they do mention when you give a TED talk, not to sell. And Bill’s TED talk in 1998 was very controversial within the TED community because it was basically standing up and launching a new product that people were like, “Well, this is not a world-changing product. You’re just up there selling us on your new startup.” So it sort of, without naming him, they use that as an example of what not to do these days.
Ben: Much cheaper than renting out Moscone Center yourself.
Brian: Right. Exactly.
David: And not only launching a new product, but a new product that was just ads.
Brian: Right. Exactly. It’s not a new product that’s going to cure malaria or something like that. But one thing we have to say about GoTo is that it was very quickly successful which makes sense because if you think about it, it’s pure advertising. And we’ll get to this later on. But the model, Google’s business model which we now think of as the greatest advertising machine ever created by man, it’s already present in this first version called GoTo.com with obvious caveats. But it was immediately successful in the same way that Google’s AdWords product was almost immediately successful.
There’s a couple things that I need to point out about how GoTo worked. First of all, it was a destination in and of itself. They called it GoTo.com because Bill Gross wanted it to be a shopping destination. It also, as we pointed out, was all ads. And it was pay to play essentially. If you were willing to pay $100 a click, you could be #1 on every single keyword on GoTo.com. As we’ll get into later, Google tweaks that model later on. But as I pointed out, it started out as a standalone destination which was not very helpful to Overture/GoTo’s business model because there were already existing properties that got way more traffic: Yahoo, AOL, Excite, places like that. So even though GoTo.com was successful, it was not successful enough because it wasn’t scaling.
So, Bill Gross has the brilliant idea of syndicating the ad model of GoTo. This is when they changed the name to Overture because Overture obviously means making an introduction. GoTo/Overture begins cutting deals with every major search portal in about 1999 to 2000 including AOL, Yahoo, Excite, you name it. What started to happen is in your normal Yahoo or AOL search results, you would see 2, 3, maybe 4 Overture results at the top. Those would be the same ones that you would see if you went to GoTo/Overture, but they were just the little syndicated paid links now at the top. This model was unbelievably successful, and it was successful at a time when major search portals needed some serious cashflow because by 2000 into 2001, the dot-com bubble is bursting. And that means that a lot of the companies that places like Yahoo were piggybacking on top of to make their money to sell the display ads that were running against their portal pages and their search results were going out of business. Yahoo especially – I was just researching this for my book – in 2001, I believe the first quarter of 2001, they suddenly to announce that their guidance for the quarter is going to be lower by 25%. About a month later, they come back and the say, “You know what, we’re going to guide down another 25%. So imagine this is how bad it is in 2001 that twice a public company has to lower guidance by 25% within the same quarter.
David: That's unimaginable today.
Brian: Well, we hope so.
David: When people talk about how today’s entrepreneurs haven’t lived through the hard times, this is what they’re talking about.
Brian: Right. I got some more great numbers for you. Yahoo – we’ll use Yahoo as an example because they’re going to come into the story now – their market cap at its peak was 128 billion. By January of 2001, their stock price had gone down from 118 to 4.05. The market cap had gone down from 128 billion to 11 billion. That’s 92% down from its high. So when people talk about the carnage of the dot-com bubble bursting of the nuclear winter like we call it, that’s what we’re talking about – where sales are just evaporating overnight, your high-flying market cap is eviscerated.
David: Incredible. This is the same time on our Amazon IPO episode that Tom was talking about when everybody was hit by this. Amazon, eBay, even the companies that end up surviving and thriving to today were trading for pennies of what they once had been.
Brian: Well, into this crazy time period where everybody’s losing money, all these dot-com companies are going away. Because that’s what’s exactly happening to Yahoo, is that they had ridden the Pets.com. the Toys.com, the iVillage.com – all these dot-coms that were willing to spend, spend, spend all their VC money in order to stand out from the crowd and hopefully have a flashy IPO. They’re gone. So overnight, Yahoo loses somewhere around 60% of its advertising base. Into this breach steps Overture and immediately, as I said, is super successful for its partners. Basically, by 2001 all of the profits that Yahoo is making is from its search deal with Overture.
David: Yeah. We sort of made fun of GoTo at the beginning of the episode, but we shouldn’t shortchange the company and Bill Gross here. I mean, it is brilliant, what they do from a business perspective. They invented the paid search model and then had the insight when they didn’t have enough traffic themselves as a destination site to marry that model with traffic, search traffic that other portals had. I mean, these are really two brilliant observations from a business standpoint that Bill Gross and Overture had.
Brian: So I'm going to quickly jump to the acquisition that we’re talking about and then I'm going to cycle back to the third player that we’re talking about here. Essentially, it’s obvious to anyone listening to the story that Yahoo, if they’re making all of their money from this deal with Overture, maybe wants to acquire the company that is suddenly responsible for most of their revenue. So in mid-2003, negotiations with Overture bear fruit and Yahoo agrees to buy Overture for $1.4 billion which was actually 25% less than Overture was asking for. So I want to make a quick point here why is Overture willing to sell on the cheap. Well, if you think about it, they’re in an unsustainable situation. They’re making everybody tons of money. But they don’t own any of the properties that are getting the traffic themselves. So they’re operating a business that is incredibly reliant on their partners if they were to lose, say, a Yahoo or an MSN or an AOL, which they do, we’ll talk about in a second. If they lose any of those major partnerships, they’re basically out of the game.
So the reason that Yahoo is able to come in and purchase Overture on the cheap is that Yahoo knows that they sort of have Overture over a barrel. Yahoo is willing to pay a lot because it wants to lock down that revenue. But it's worth pointing out that for all the money that Overture was making, people, it was basically in an untenable situation and needed to be acquired by somebody.
Ben: So Brian, do you think that that’s always a bad strategy to kind of have all of your potential exits be partners that are direct competitors?
Brian: I think that obviously doesn’t put you in a good negotiating situation because your acquirer can basically say to you “We’re willing to buy you and save your life, and if we walk away from this deal, we’re killing you.”
Brian: So it’s “Let us save you or we’re going to kill you.” That’s not a great negotiation position to be.
David: Yeah. At the same time though, it was still a $1.4 billion deal, like that’s a lot of money, especially for a company that was only founded 5 years earlier and you’re in the middle of the carnage of the tech bubble.
David: Yahoo’s market cap was at that point, would you say like $11 billion-ish or it’s 10$?
Brian: Yeah. Around the $10 billion.
David: Yeah. That’s more than 10% of their market cap.
Brian: I would say that in this era, the two big acquisitions that make people stand up and take notice and be like “Hey, maybe the internet space isn’t dead” was this acquisition and then the PayPal acquisition.
Ben: To be fair, this was a 15% bump over where Overture was currently trading.
Brian: Right. Because Overture was a public company at that point. I think we forgot to point that out.
All right. So I want to smash cut now over to the third player in the story, which is Google because if you’re listening to this, you’re thinking, well, what we’re talking about is basically Google’s business model which is paid search. What people forget about the Google story is that Google did not have a revenue model for a very long time. Their original business model when they took their money from Sequoia and Kleiner Perkins was basically to syndicate search results. So again, we’re in an era where there are 7 or 8 major “search” players, and I'm saying search in quotes because a lot of them weren’t doing real search. They were more portals. But search was a component of what the portals were offering people. So, Google’s original business model was to basically offer the search results to these 7 or 8 players and get licensing deals for providing the service.
David: What’s crazy, you know, to think about how different the world was back then. I could be wrong on this but I'm pretty sure that the way Google did that was through the Google search appliance which was actually a piece of hardware that their partners would install in their data centers. It’s so hard to imagine today.
Brian: Yeah. For fans of Silicon Valley, they made a box. So now if you’re Google in 2001 and you’re sort of hunting around for a business model. Because really, that licensing, your search results to 7 or 8 players doesn’t really scale very well. It’s a decent business. It’s not a multibillion dollar business. If you’re Google in 2001, you’re looking over at Overture and you’re seeing that Overture is having incredible success in what is essentially your space, and they’re doing it via a business model that is pretty obvious.
As an example, 2001 is the first year that Google actually is profitable. In 2001, its revenues were $85 million. In that same year, Overture had revenue of 288 million. At that point, Overture was growing faster, was growing its revenues faster. So, Google does what is the obvious thing in retrospect and probably even at the time, they say, “Hey, maybe let’s give this Overture model a try.” The original version of AdWords that Google launched was basically CPM. They were still text-based ads and they were put at the top of search results. But they were glorified banner ads even though they were text. Basically, advertisers paid per thousand viewers for the ads that showed up.
One thing that we haven’t pointed out is that Overture has pioneered paying per click CPC, which advertisers love because it’s much easier to measure results versus measuring on a CPM basis. So, Google first experiments by doing AdWords at the top and Ford or Coke or whoever would pay by the thousand viewers. Then they start to introduce what overture is doing. So they’re putting search results on a cost per click basis at the top and then later on the side as we’re more familiar with. But they do two things that Overture hadn’t done. Two huge innovations. Number one, Overture always had editors. So if you submitted an ad to Overture and you say “I want to advertise for flowers,” they would have to make sure that you really were a flower business, they would have to make sure that the ad was copacetic. They even had to make sure. You know, they’d approve your text and all those things. Well, we know Google as the company of engineers where there’s no problem that can’t be solved by math and some decent engineering. So they don’t want to do this editorial stuff and so they create an automated system. Whereas with Overture, you would submit your ad and it would take a day or two for the ad to go live. Google created an automated system where you would bid on keywords, submit your ad and the algorithms would make sure that the ads were cool and your ad would be running within the hour.
They also targeted small advertisers. Overture was still in this sort of display ad business or the traditional ad business where you’re chasing big brand advertisers. And Google said, “Hey, if you’ve got a credit card, I don’t care who you are. Throw $50 at us and you can run some ads and let’s see if this works for you.” So Google goes after small advertisers and basically creates the modern search advertising marketplace that we’re familiar with today.
Ben: By going there, after those small advertisers, they really created a new market too because if you’re Coke, you can go deploy $100 million on billboards around the market and you can buy these brand advertisements. But if you’re using search ads and you have metrics on the number of people clicking through for the first time, there’s a real market for direct response advertising and not just brand awareness ads.
Brian: Right. It’s a different type of advertiser where it’s more direct response advertising as opposed to brand advertising which traditionally still is in the display business as opposed to the search business. That’s even true to this day to a large extent.
So the second key innovation is it’s not just pay-to-play. You can’t go into a keyword, be willing to pay $100 per click and be guaranteed at the top. Google of course being Google, again, wants to have this sense that “Hey, it’s a win-win-win for everybody. We want to have the most relevant ads” so that the ads will almost be useful to a searcher, not an annoyance to a searcher. So, they introduce this key innovation of the click response rates affect the bidding process for the keyword. So it’s not just the person that pays the highest gets the top. It’s some combination of the person willing to pay the highest and the person whose ads gets clicked on the most and thus making that ad probably the most relevant.
David: Yeah. And we’ll circle back and talk more about this later in the episode in the analysis. But this is a super key point for two reasons. One, that allows Google through their system to actually optimize revenue, not just the amount of money that people would spend on a given auction but the way that the revenue will be the amount of money spent on a CPC ad times the number of people who click. So by optimizing for also people who click, they optimize revenue. Then the second key point is that this is a really hard math problem and hard data problem that Google is going to need a lot of engineering and technology to solve, and we’ll see that come back later.
Brian: Right. I think that it’s worth underlining that. Google actually is able to make more money by this model because by making it more relevant, if you do the math and it’s too complicated to go into here, but it actually ends up making Google more money because they’re getting more money from the ads that are clicked on the most.
Ben: Yeah. And Brian, is this the point that Google introduces that other innovation of lowering the price of the bid to just above the second highest bidder?
Brian: Yes. In the Overture model, if you were willing to pay 50 cents and the number two bidder was willing to pay 10 cents, when you got clicked on, you still pay that 50 cents which sounds crazy, and it was. So one of the things that really won people over from Overture to Google’s AdWords – and I can speak from experience because I was one of these advertisers at the time – was okay, on Google’s model, if I pay 50 cents, my competitor bids 10. If they click on my ad, I’m only paying 11 cents. I’m only paying just over what the second was bidding. And I don’t have to do anything to do that. It’s automatically done for me.
Ben: Which really, I mean, that starts to feel like Google being a real enduring company, right? Making these decisions that really bring the marketplace efficiency in line with where the market actually is and not just saying this is a “smash and grab job for cash now” but really we want to have this advertiser relationship for a long time.
Brian: Indeed. So let me pick up the story. It’s February of 2002 that the modern AdWords as we know it with the change to cost-per-click and with this quality score on ads is introduced, February of 2002. And one of the executives that is brought in to lead the ad team at this point is a young lady by the name of Sheryl Sandberg. And Sheryl as we know basically –
David: I feel like I’ve heard of her somewhere.
Brian: Makes her early career by the success of AdWords. But let’s go back to the Yahoo-Overture-Google triangle here. Because Yahoo had a preexisting relationship with Google. Google had been since 2002 providing the search results for Yahoo. People always forget this. Yahoo was never technically a search engine. It started out as a human power directory and through the mid to late ‘90s, that was their differentiator. Search engines just didn’t really work very well. And so Yahoo sort of made its name by saying if you come to us, go through our directory. You’re going to find what you want to look for because we’ve taken the time like actual human beings taking the time to sort this out for you.
Ben: And they were touting the fact that they were a media company and their primary revenue driver at that point or at least a little before was the banner ads that they were putting on their own first party media content, right?
Brian: They did a lot of things to try to introduce e-commerce. There was Yahoo Shops and things like that. But yeah, still 80% of their business as we discussed were people buying banner ads, especially the dot-com companies buying banner ads.
So, Yahoo already has this preexisting relationship with Google. And Google has seen that Overture has created this incredible business by syndicating these paid search results. So, around 2002, Google starts to do the same thing. Remember, they’re still these multiple players. Still AOL is the biggest player at this point. Yahoo is the biggest portal at this point.
And so Google is starting to shop around this idea that “Hey, we can syndicate our ad words in the same way that Overture does,” and so the first person that they go to to try to cut a deal like this is Yahoo who they have this pretty existing relationship with. And so that is really when Yahoo starts to get the idea of maybe it itself needs to get into the search game. As we’re saying, search was not their business. They were basically selling ads against eyeball, thus were calling them portal sites.
But an interesting thing is, is that since Yahoo and Google have this relationship, Yahoo is able to take a look at Google’s internals. So in the same way that it can see on its bottom line all the money that it’s making with Overture, it can see when Google is similarly having incredible success syndicating its AdWords ads, the big deal that Google is able to pull off is when it steals AOL from Overture. Overture had been providing those paid links at the top of AOL search results. Google swoops in and steals that business from Overture to the tune of about $100 million, at least that was the deal in guaranteed revenue that they had to offer to AOL. But again, because Yahoo has this relationship with Google, it can see that the AOL deal is instantaneously extremely successful for Google. This is around the same time if you guys might remember, the summer of 2002 that Yahoo first tries to buy Google. Before they make the overture to Overture, they try to buy Google for $3 billion and are rebuffed. Which is interesting because at that point, Google’s revenue was probably only about $240 million a year and Yahoo’s yearly revenue was $837 million. It’s starting to recover in this period from the dot-com bust. A CEO by the name of Terry Semel comes in and basically doubles down on the display advertising business and turning Yahoo into a media destination.
So Yahoo’s stock price was only about $7 a share. So the $5 billion purchase price that Google wanted – Yahoo is offering 3 billion, Google wants 5 billion – would essentially have meant that Yahoo was going to spend basically its entire market cap to swing the deal. It definitely would not have been a merger of equals. It would have been basically Google taking over Yahoo by proxy.
Brian: So, Yahoo does not get to buy Google. And so in its mind it has to do the next best thing. Overture is obviously the business model that Google has copied and is having success with. So, why can’t Yahoo just go ahead, buy Overture, buy another company, get into the search game and basically replicate the business model that Google is having success with, that it has copied from Overture.
David: Sounds great. What could go wrong?
Brian: What could go wrong? And so, this is essentially what happens. The first thing that Yahoo purchases is Inktomi. So that gives them what a lot of people at the time thought was a search engine that was equivalent in quality to Google or at least the second best search engine on the planet at that point. So they buy Inktomi in late 2002 at a relative bargain. The acquisition was 257 million. So then on top of that, they turned around and paid the $1.4 billion for the search ad pioneer, Overture. So those are two big acquisitions. Remember Yahoo’s market cap is under 10 billion at that point. But it’s a lot less than what Google had been asking for, right?
Brian: So, the acquisition goes through and it’s immediately a big win for Yahoo because overnight, acquiring Overture triples Yahoo’s profit. In 2004, its revenue doubled and the profit more than tripled by bring Overture’s search ad business in-house. It actually immediately has a positive impact on Yahoo’s stock which goes from $16 a share the day that the Overture deal was announced to $37 a share about a year later. And there’s an ironic quote from Terry Semel around the acquisition where he says, “We got into search to change the game.” It’s ironic because most of us thought that Yahoo was a search engine but as we’re discussing, in reality they never were.
So, Yahoo’s plan here is to integrate these two things: to bring the search engine house, to marry it to Overture’s existing paid search business. And bam! They can replicate everything that Google has rapidly seeing success with. There was precedence for this because remember, Google used to be the search results for Yahoo. So basically, you swap out Inktomi. That's relatively simple.
Ben: Seems reasonable.
Brian: Right. The problem was integrating the Overture search ads business. If you’re Yahoo and your existing business for your entire life is this display ad network where you’ve got hundreds of salesmen and basically, you had been in the game for a long time of just getting eyeballs to your site. People coming for horoscopes, for maps, for checking your email and things like that. All of a sudden, you basically have to upend the culture of the company and say we’re in this engineering-based search business. And it turns out that that was the problem of the acquisition that it was a huge, on some level, technical headache to integrate to the Overture business into Yahoo but more than anything else, it was a cultural headache, a cultural clash of trying to change Yahoo’s business model basically midstream.
Ben: So many thoughts but holding my tongue for analysis.
Brian: Let me wrap this up then and explain why the acquisition we can say was not entirely successful. They bring in Overture and the Overture team conflicts with the existing Yahoo engineering team, the Overture business model conflicts with the existing Yahoo display ad business model, people don’t get along, people aren’t executing; or let’s just say that different teams are moving in different directions, not everyone’s rowing the boat in the same way. At some point in 2005, they fire the original Overture CEO that was brought in with the acquisition and here’s another name that you might recognize. Guess who they bring in to try to save the integration of the Overture business?
David: A hint. We did an episode about his company being acquired.
Brian: It was a young gentleman by the name of Jeff.
Brian: Who we now are more familiar with as the LinkedIn CEO. And Weiner did have success integrating the Inktomi search, just swapping them out that had been done before. But he had an incredibly difficult time putting the Overture business together with the search business. There was this huge project called Project Panama that Yahoo promised for years and years and years would launch and would be just as easy to use as AdWords. All you had to have was a credit card, will have the automated system, will do the ad scoring so that we’re going to reward people for the most times they clicked on the ad relevance, that sort of thing. Basically, everything that Google had done with AdWords. Project Panama was supposed to do the same thing, only better of course. But they never really pulled that off. I believe that Project Panama was announced in late 2004 or early 2005. Panama does not actually launch to the public to companies willing to buy ads until February of 2007, so long after Google had IPO’d.
By 2007 when Project Panama launches, Yahoo’s sales that year were almost $7 billion. So in the intervening years, they have been successful at turning their business around and making some money off of search. But the problem was they were not as successful as Google who in 2007 reported revenue of $16.6 billion. So because of the integration issues, because of the cultural issues, by the time that Yahoo finally realizes its dream of building AdWords based off the acquisition of Overture and Inktomi, it's too late. Google has already run away with the search crown. It has by far the largest measure of the search market overall and Yahoo is basically and also ran – and by the way, even when it launched Project Panama was not that great.
Ben: And for Acquired listeners, Brian’s previous episode of the Internet History Podcast was an interview with Gary Flake, which is really, really exceptional if you get a chance to go listen to that. Brian and Gary were discussing this notion of a multisided marketplace as a living, breathing ecosystem. So, when the Overture deal went through, there were customers on one side of the ecosystem and searchers on the other side of the ecosystem and then a third party which is the actual search providers. This is an interesting takeaway for other businesses that we’ll be analyzing in the future. But when they decided to put a lot of the Overture engineers sort of on pause to go and start what will become Project Panama, you really slow down the fuel into the ecosystem and the machine stops working. So you can’t just tell your customers like, “Hey, bear with us for two years while we build a better widget here for you, guys.” I mean, Google very, very much took that opportunity to swoop in. And then you’re kind of starting from a not quite cold start problem but anybody who started a marketplace from scratch knows how inefficient and how rough they are at first. And by kind of going and hitting the reset button for Project Panama really cost them a lot of ground in those intervening years.
Brian: Well, and there’s one more twist to the story before we can start to get into analyzing all of this. Remember, and everyone acknowledges this, Google basically copies Overture’s business. AdWords was not a direct copy of what Overture was doing because clearly Google did it better. But everyone noticed including Overture that Google had basically copied them. And so even before Yahoo acquired Overture, Overture sued Google for either copywrite infringement, IP infringement or something. It’s actually a little murky because it turns out that Yahoo who had acquired Overture at this point eventually settles with Google. If it was a slam dunk case, why would you settle with a competitor that basically has in your eyes stolen your business model and is having great success with it. In the end, before Google goes public in 2004, they settle the litigation with Overture/Yahoo. We were talking about this over email. The numbers we’re not sure about, I believe something like $400 million of Google stock pre-IPO Google stock, the only numbers that I'm sure about and then you can cut in and correct me if you know more is that I believe at some point in 2005, after Google goes public, Yahoo sells $4.2 million shares of Google pocketing nearly a billion dollars which very much boosted its bottom line. So there’s further irony in the sense that all along, Google is still helping keep Yahoo afloat basically because Yahoo has so much Google stock. But this is something that’s always puzzled me, is I know why Google would want to settle. They want to have this litigation go away. They’re about to go public.
But why would Overture/Yahoo have settled? The best that I can figure is that the patents that Overture originally had weren’t that good. I found in Steven Levy’s book about Google called In the Plex, I found a quote from Bill Gross where he’s talking about the patents. Before Overture itself goes public, apparently they hadn’t nailed down many patents and Bill Gross says that they’re rushing to patent everything they can. I don’t know why they hadn’t done this before. The quote is, “We patented everything else we could think of – a bunch of obscure things like the way we could accept the bids. But these were silly patents. The real patents would have been worth billions.”
Ben: Interesting. Because in several places that refer to these patents, they talk about the “essential components related to the features and innovations surrounding our bid for placement products and our pay-per-performance search strategies.” It seems like, I don’t know, maybe they didn’t fully think it through and like you’re saying, patented a lot of the less valuable stuff. But there was a failure to see the forest through the trees there.
Brian: In my conversation with Gary Flake, I also got the impression that Yahoo just thought it could do it better, who were these upstarts at Google. We’re Yahoo, we’ve been in this game since 1995. We’ve got more money, we’ve got more talent, engineering talent, and we’ve got more resources. So maybe it was a question of they didn’t think that the patents were that strong and hey, by the way it’s not going to matter anyway because we’re going to kill these guys soon.
David: Yeah. Oh, no. It’s also kind of a fun, a side little mini tech theme in the what’s all this new again. It’s like this is like the OG version of Instagram Stories. If you can’t beat them, copy them.
Brian: Well, then there’s always the – you know, none of us are lawyers or at least I don’t think either of you are lawyers. But the whole idea of there are some things that are fairly obvious so that it’s not like you have to go steal industrial secrets or something in order to copy a business model. There are certain things like bidding that are fairly obvious to people. So yeah, I just would have to speculate that maybe the case was not that strong and so hey, Yahoo settles, gets a decent chunk of Google stock and then they think it's not going to matter because they’re not going to do better than Google eventually anyway.
Ben: Yeah. And one thing that I think is worth separating out a little bit here is Overture nailed the product model. For the first time, somebody had a performance for-pay search model that totally turned the industry on its head. But that was really the product model. They were a B2B provider. They tried to be a B2C provider but couldn’t get the traffic to their search engine. And Google was the one that sort of ended up nailing the business model by stealing the product model from what Overture had created and then building that actual B2C business that has incredibly outsized returns. I think this is probably a well-known, well-researched thing but it really just occurred to me that if you think about the value chain and everyone that ends up contributing to the ultimate search results that you see or the ultimate social stories that you see on Facebook. The biggest companies that command the most market cap and capture the most value are these B2C companies. And if you’re deciding swing and a miss on B2C with GoTo.com, we’re going to be Overture and be a B2B provider, you may have pioneered the best product but you’re settling for a smaller opportunity in being a B2B provider if you’re in a single industry like that. I could see making a case for B2B having potentially larger upside if you’re serving multiple industries but, you know, search was this brand-new thing and the only companies that they could serve were the search engines themselves, so they naturally had to be smaller than the combined value of the search engine. And the way that they were positioned, you know, smaller than any single search engine or the largest single search engine anyway.
Brian: That’s the original sin of GoTo-Overture anyway because remember, the reason they were in a precarious situation is because they didn’t actually own the underlying properties that were generating the traffic. They thought they solved that problem by hooking up with Yahoo. The problem is, is that Google did such a good job at being everybody’s favorite search engine, of being the best in search that by the time if we give them credit and say they eventually got their act together by 2007, it's way too late because everyone has already learned to Google it and at that point, Yahoo, as a search destination was significantly less in market share than Google was.
Ben: Totally. And this is a really great transition into acquisition category. So for listeners that are new to the show, we assign a category to every acquisition and those buckets are people, technology, product, business line, asset, or other. I think so that when we look at this acquisition, it was really a vertical in Yahoo buying a horizontal in Overture, and Overture obviously trying to serve many search engines with their technology; Yahoo buying them to integrate with their one search engine. And, you know, these are sort of hard because let’s assume that a lot of the value created by Overture was by summing across all their different customers. Well, as soon as they get acquired by Yahoo, it's pretty easy to see that boy, if you’re prioritizing for the vertical for Yahoo, you don’t want them serving all these other customers. But the issue was, like even if you’re going to take that value destruction hammer and do that because you believe that the synergy and the sum of the parts created by that acquisition is better than all the previous value by serving all those customers for Overture, they actually didn’t pick.
And the issue is, I think the acquisition category I'm going to assign is, the problem is they acquired a technology and they also acquired a business line and tried to keep both going. So, you know, they had the technology that they were integrating into Project Panama but they also had this business line and Overture continued to serve other customers. Like you got to pick one and you got to go hard at the strategy.
David: Yeah, I’m going to say something similar. For me, I’m going to assign it a technology category. But my take on it was Yahoo acquired a technology, they just acquired a… you know, I was going to say bad technology but the reality is it wasn’t bad in and of itself. It was just bad relative to Google. It was orders of magnitude less powerful. And I’ll get into What Would Have Happened Otherwise and Tech Themes a little bit about the importance of technology that I referred to earlier. But yeah, for me this is clearly an attempted technology acquisition.
Ben: It is.
Brian: If it’s time for me to chime in, I’d agree with attempted technology acquisition. I don’t know if this is a category though. It’s an aspirational acquisition because in the same way that Google had looked across at Overture and said “Hey, there’s gold in them thar hills,” Yahoo has looked over at Google and said there’s gold in them thar hills and guess what, it’s search. Again, we can’t underline enough that what essentially Yahoo fails to do is that it fails to recognize just like everyone else did that there was actually money to be made in search. And that Yahoo should have been in the search business and was in the search business. That’s essentially the main reason why people first came to Yahoo in the first place. So it's aspirational. They’re looking over at Google, they’re saying, “Shoot! They’re playing in our ballgame. It’s the game that we should be winning. We’re going to win at this.” So it's an acquisition where they’re looking over the fence, looking at their neighbor and deciding to build a pool, an inground pool as snazzy as the Joneses have.
David: Yeah. It’s almost like they wanted to build a new business line in search but rather than taking the market cap and cost pain of just acquiring Google, which they should have done. They decided instead, “Well, we’ll buy these couple other players and search these technologies and build it ourselves into this new business line,” and clearly failed miserably.
Brian: You know, a more recent analogy would be Google looking over at Facebook and saying, “Wow! Social is where it’s at.” They did make several attempts to become a social media company. To their credit, they didn’t drive their business into the ground to do it. But in essence, that’s the same thing that we’re looking at here, is looking at the young upstart coming up behind you, seeing that they’ve created this amazing business and trying to copy that business or get into that business at the very least.
David: Oh, that's not that hard.
Ben: Yeah. I think the huge takeaway and the thing that we forget today in the world of but my job is professionally to try and start new startups, and so all the time I'm going “Well, let me go see what keywords are going for in this category right now as my very first step.” You know, in the absence of that world existing, we completely forget that it was not apparent that a marketplace for search ads was going to be an incredibly lucrative business. So if you look at the steps that Yahoo took as a business and kind of growing up, Paul Graham has this really great piece about Yahoo called “What Happened to Yahoo?” and sort of points out that they went from being this web directory and then they had to become grown-ups and the way that they did that was where we sort of directionally pointed right now that’s a big company and they decided media where, you know, we’re going to be a media organization. And even though they included search, they were like, “Well, search is sort of just a way to get people to the site but really, we’re a media company that sells these banner ad impressions.”
Then Google comes along and they sort of accidentally discover the incredible power of having really, really good search for the first time. Then Overture discovers that second innovation, the first being actually very good search using the PageRank algorithm, the second being the sort of business model of selling paid search ads and oh my God, it’s tens or hundreds times more valuable than anybody thought it was going to be. So then Yahoo very quickly has to try and figure out how do we pull an about face and get into this new really big business that’s even bigger than the media business that we thought we were trying to get into.
David: Yeah. I think this is – if you guys are okay with it – I think this is a great point to jump to What Would Have Happened Otherwise because I’ve been itching all episode to bring this up.
Ben: Let’s do it.
David: The ultimate point of PG’s post that Brian sent to us is that Yahoo wasn’t an engineering-centric culture and Google was, and that to win at search, you needed to have really excellent engineering and technology. This is sort of what I’ve been referring to all along. I want to make an argument here in What Would Have Happened Otherwise that maybe not the Overture specifically but had Yahoo not gone down this path with trying to build Panama and compete directly with Google, we would not have seen any or at least they would look very different, any of the great startups that emerged out of the web 2.0 era right after this and then even into today with Airbnb and Uber, because the most important thing to me that comes out of Yahoo’s attempts to compete with Google is Hadoop. And for our listeners who aren’t super familiar either with what Hadoop is or the history of it, when I was referring to the really hard math and engineering problems that Google had to solve their both the organic search results and manage the data to deliver the best search results for what people are looking for but also serve the best ads, that requires orchestrating just this huge, huge amount of data.
So Google invented two things that allowed that. One was the Google File System. The second was this computation paradigm called MapReduce that allowed Google to basically operate on this huge amount of data that they were storing in the Google File System.
So Yahoo, when they tried to compete with Google, they basically fund this open-source project called Hadoop which was trying to recreate. Google had published papers about how they were doing this but they were trying to recreate these technologies that really had founded sort of the “big data” world and paradigm. And Doug Cutting was a researcher who was building Hadoop and Yahoo funds him through this period in the mid 2000’s. It’s Hadoop that really then enables Facebook to do all of the data work that they do to create the newsfeed, that enables an Uber, when you order an Uber for it to get – you know, you get matched to a driver who’s two minutes away that enables when you search on Airbnb for you to find the best property. This technology that gets open-sourced was all of Google’s core technology innovation, and I think without this battle wouldn’t have just emerged for free for the community to innovate on.
Ben: Yeah. That’s a great point. This is also kind of not tech theme but a company theme that Google has is they often will write a research paper about a new method or paradigm they’ve discovered and then there’s these open-source projects that come around it. And those things are lagging what Google has developed internally by about three years. So for anyone who’s sort of worked at Google and worked outside of Google, I’ve heard over and over again, “Oh man, yeah, I wish we had this tool that we had at Google. It was like this but on steroids.” It’s interesting to hear about the announcement of TensorFlow was after they had a very similar machine-learning system at Google for about three years before announcing –
David: Containers as well. I mean, Docker, the same thing. Google was running on Containers long before Docker existed.
Ben: Yup. So it’s really like I think one of the themes of this acquisition is, how the heck are you supposed to compete with a company that is that engineering-centric and has built that far into the future relative to other companies?
Brian: Well, my counterfactual would maybe go away to answering that because if we’re speculating what would happen if Yahoo had never purchased Overture, then I would speculate maybe they would have been more motivated to double down on their existing successful display business. What if they seed search advertising to Google? Which we know only goes so far because there’s this whole universe of existing brand advertising that is more suite to display. What if instead of DoubleClick being purchased by Google, Yahoo doubles down on display and it purchase DoubleClick, and then in the world of mobile that we now live in where display is more suited to mobile advertising, would Yahoo have been in a stronger situation to be a major player in the next paradigm and the mobile paradigm.
Ben: Oh man, I love that.
Ben: That touches on a few things here. I love that idea that if you are missing the current round, then you’re actually in a better position to take on the next around ala the iPhone or Apple being in a better position than Microsoft to go into mobile because they had nothing to lose, whereas Windows was hugely successful and was hard to move into a mobile phone factor. Sort of the same analogy of if Yahoo had really just totally lost the search ad war, would they be in a better spot for the display war? And for listeners not familiar DoubleClick, that’s basically the off-property Google ad network. So when you’re going to a publisher like New York Times and you see an ad there that’s provided by an ad network, that’s probably provided somewhere in the chain of Google and DoubleClick which they acquired delivering that ad off of the search page.
So yeah, Brian, that's a super interesting What Would Have Happened Otherwise. Like Yahoo punting on paid search altogether.
Brian: And just maybe a bit throw in the towel, say, “Yeah. You know what, just give us AdWords. We’ll put them at the top.” And our core competency is something that it turns out, Google had to chase. When Google buys DoubleClick, it is to expand beyond just search ads and into the broader internet advertising arena in general. So if Yahoo had just thrown in the towel there, seeded the game at that point, and then gone back to its core competency, then maybe we would have seen a situation where Google is knocking on Yahoo’s door asking to acquire them somewhere down the road.
Ben: If you look at, even today I think – I was looking at these numbers maybe six months ago and I think – so Google makes about 93-ish percent of their revenue from advertising and about 80 percent of that is search ads and about 20 percent of that is display ads. It’s interesting that like even though Google spent all that time sort of chasing the display ads business, their real cash cow is and continues to be search ads. So, could Yahoo do something really meaningful? Or could they have done something really meaningful on the display side? Only history knows.
David: Well, and of course famously, Yahoo is kind of like – I don’t know what the right analogy is here of, you know, “always the bridesmaid, never the bride” or just what. But they famously attempted to acquire Facebook as well shortly after this.
Ben: That's right.
David: Really interesting to think about display and more impression-based advertising, let’s say, opened it up beyond just display, is really much closer to Yahoo’s core competency than search and performance-based advertising, which of course is what Facebook does in large amount.
Brian: That was exactly sort of the counterfactual dream I thought I was having. Not that I have any vested interest or love for Yahoo, but in a world where like you said, impression-based ads are more important or growing more important every day, could Yahoo still be a major player had they stayed in that core competency?
David: Yeah. Well, I think no matter what, what’s cool about this acquisition and this period of history and why we’re doing it on both of our shows is not so much – I mean, the acquisition itself most people have forgotten, but like this really was a crossroads of history. I mean, the amount of things that both happened and didn’t happen because of this really shaped every major platform that’s emerged ever since.
Ben: Yeah, and absolutely did. There’s two major innovations here and one of them Google came up with and one of them didn’t. And one is the PageRank algorithm to actually have good search on the internet and two is the business model of search, and that business model was Overture’s innovation. While we’re talking about counterfactuals a little bit, Brian, you had mentioned on your last episode with Gary Flake that Yahoo never had any power over their customers since they never had a first party offering. It would seem that there are business model ways to make this not a big deal. Like you look at Microsoft. Until recently they never made hardware but boy did they command power over all the OEMs that were installing Windows. Do you think that the way to stay in a good position when you’re a horizontal provider like this is not to let any of your customers get too large on their own or do you think it's that you do have to have a credible first party offering, or maybe it’s that you’re so big that you’re never trying to sell? What do you think the way that Overture could have solved for that problem would have been?
Brian: You said Yahoo at the beginning but I know you meant Overture.
Ben: Yeah, yeah, sorry about that.
Brian: Yeah. I don’t think so because this – the answer to your question no matter how many ways I could twist my presto logic to try to make it happen, what fundamentally Overture was in was a platform business. So without a platform of its own, it was never sustainable in the end. I mean, I see what you’re saying there’s got to be some sort of a world where you supply the ammunition to all sides and you’re just a neutral arbiter in the middle. But that would never happen because of the politics involved the next time the three-year deal with AOL was up or the next time the deal with Yahoo was up because your partners at the very least are always going to try to pay less. And at the very least, if you try to play off each other, you’re going to piss one guy off and then maybe they leave your network. I just don’t see a scenario unless Overture had been lucky and had been earlier and so it had the larger market cap and so it could have started buying up its partners. By being late, by being smaller, I just don’t see any scenario where they would ever be able to relax. It would always be a shifting sand that they were standing on and I just don’t see it could ever have worked.
Ben: Yeah. All right. Anybody have anything before we move into tech themes not that we’re not already...
David: I feel like we’re already deep into tech themes. Why don’t you kick it off, Ben?
Ben: I actually don’t really have one right now. I have talked a lot. I’m at a loss for words.
Brian: We’ve been doing it for 15 minutes, yeah.
Ben: I’m looking at here at my list of tech themes and I’m like, “Talked about that... talked about that... talked about that...”
David: Well, one thing I want to put in there which is a little bit of tech them, a little bit just like a rumination as I was thinking about this. We talked in our last Acquired episode, we had Brad Stone on and we had talked about Uber and Didi and probably by the time we post this on the Acquired show, we will have done the Snapchat IPO is this week and we’re going to do a sort of real-time reaction to that, so I suspect this episode will come out after that. But I think these three episodes together sort of form sort of a series here on Acquired about kind of the nature of competition and the importance of sort of sustainable, defensible, competitive advantages. I’m thinking about in Uber and Didi how, we talked about with Brad how the sort of idea of like scorching the earth versus building a moat that the ridesharing companies have all taken and then certainly with Snap, we haven’t recorded that episode yet but there’s lots of discussion and consternation in the market about what is Snap’s moat, does it have one or is it, as Ben Thompson says, pursuing the Gingerbread Man strategy of just constant indefensible product innovation.
But this, you know, Google I think is really an example and maybe one of the best we’ve had on this show of an incredibly sustainable, defensible competitive advantage. And we see it at work here between Overture had the head start, had figured out the business model but then Google came in and just ate their lunch and sustained that. Why was that? I’m tempted to say it was the technology and that’s why I got all excited about GFS and MapReduce and Hadoop that comes out of it. But I think it’s even more than that. I think it’s using that technology to create this platform that is matching supply and demand and both users on one side and producers and advertisers on the other side, producers of content and advertisers just in a fundamentally better way than other people are capable of. But I don’t know, curious what you guys think.
Ben: David, it's like, I think we touched a little bit earlier on it but the reason that they have long-term defensibility I think is related to that whatever the second person was willing to pay auction and extrapolated out real far, it looks like everybody is getting a good deal. It’s a continued feeling that me as a customer or as a searcher, when I go to search on Google, yeah there’s a bunch of ads but it’s either they’re relevant, they’re most of the time relevant or other times I can very quickly get to the organic search, like I feel like there’s a free service out there that’s really good where I’m getting a good deal. And many times as an advertiser – and Brian, you can really probably shed some more light on this – I’d give money to Google and I get more value out of it. Like I feel like I'm getting a good deal. And over and over again, I think that these enduring companies are made when everybody in the ecosystem looks at it like hey, this is not a zero-sum game thing here, like everybody’s doing well by this thing existing.
David: I think that's a great point. If you think about, just to jump in real quick and I’m curious, Brian, your thought on as an advertiser in Google, but Amazon works the same way, right? Like as a consumer, you’re like, “Yeah, I’m getting a great deal here.” I’m getting better price, more selection, more convenience. And as a seller on the marketplace, I think you also feel like you’re probably getting a pretty good deal in terms of the volume you’re going to be able to sell versus anywhere else. Versus you’d look at something like Uber, and Uber certainly still has potential to be an incredible company and a dominant platform. However, I think there’s a hole on the driver side right now. I don’t feel like drivers on Uber feel like they’re getting a great deal.
Ben: Yeah. My closing point and then Brian, let me hear your thoughts. This always comes down to the network effect, the flywheel, the ecosystem. They refer to slightly different things but when you bucket them altogether, it really comes down to the engine for continuing to grow those things is incentive alignment and for everybody on each side to – I keep saying it but feel like they’re getting a good deal, it being in their own personal selfish incentive to continue to pour resources and time and effort into that platform, and Google definitely had that going on here.
Brian: Again, to mention that Gary Flake episode that I did. To him that was the miracle that you create a marketplace where everyone feels like they’re coming away better off. I want to point out in a way that was super important that maybe we don’t remember. Some of the shine has come off of the Google halo in the ensuing 20 years or so. But I guess the shine has come off a lot of tech companies in that time too. But it’s easy to forget how much everyone thought Google was this angel in the early days. “Don’t be evil” is their motto. Every time in the internet history advertising was introduced, people complained but they grudgingly accepted it. Google already had this reputation of “Oh my God, it just works.” They’re the “don’t be evil” people. And when they introduced ads to us, it doesn’t feel terrible. It feels like Google intended. It felt like yeah, these are ads but they’re not whack-a-mole animations, flashing, taking over my screen. They’re just text ads off to the side and by the way, they’re useful. When I decide, I search for flowers but Valentine’s Day is coming up, well let me take a look at those ads. So the fact that they did make that key change to make the ads relevant fit into the opinion everyone had of Google, the good feelings everyone had about Google. It fit their ammo and so I think that, you know, we shouldn’t overlook how important that was at the time that that sense of good feelings that it engendered.
But then, the ultimate story here and this is where I’ll bring in my personal experiences as an advertiser, my first startup when I was 22 in college, I bought on ad on GoTo, before it was even Overture. I paid $40 and got $80 back within 24 hours and, you know, that’s an amazing event in the life of any business person where you think if every time I spent $40, I get $80, I’ll do this all day every day for the rest of my life.
David: It’s like you’ve learned how to turn lead into gold.
Brian: Right. So that was the magic of paid search. Of like we said, the greatest advertising engine ever devised by man for reasons that other people have talked about because you’re at the point of intention and things like that. But then, that business, my first company was actually built on AdWords. The reason was not that oh, when I used AdWords for the first time it was more magical. No, it was the same magic but the difference was that’s where the traffic was. So even though for years and years and years, I still probably maintain a certain budget on Overture and eventually Yahoo, that business was built on Google. It was built on AdWords because it was a business that the best way to market the product was direct marketing at the point of intention. It was a web-based product. And so, I was never going to buy ads on TV or a magazine. I was always going to buy ads online and most of the audience, in my mind it felt like 90 percent of the audience, even though I don’t think Google’s market share has ever surpassed 70 percent or something like that, but it felt to me the audience mattered. In the same way that people talk today about for app development with iOS versus Android, the money is really in iOS. For whatever reason, iOS users spend more than Android users. It always felt that way that the money was with Google, that the market, my customers were on Google and that’s why my first company was built on Google.
David: Which is just such a great real-world illustration of the flywheel, right? Like more customers bring more advertisers which gives more money to Google and all the data generated by both further improved the search results which bring more customers, which bring more advertisers.
Ben: Yup. And a shameless plug here. For listeners interested in real zooming in on network effects and flywheels, that David and I mentioned a few episodes ago. The talk that I gave on that is up. So we’ll tweet that or maybe put it on the website or something. But it’ll be definitely be on our Twitter, so go check that out if you want to hear me ramble about network effects and flywheels and ecosystems for a while. It feels like we’re drifting aggressively toward rendering conclusion.
Brian: You guys first.
Ben: So, did it end up being a good deal? I think the way that we talk about these things on Acquired is was it in the long run, did it end up being worth it and a strategically a good decision and a good use of capital for the acquiring company to be buy the acquiree. For a variety of reasons, no, I think there was big integration failure. There was lack of clarity on why they were making the acquisition internally because they tried to have it both ways by being its own business and by integrating it. Yahoo really wanted to be a media company, not a tech company. They got to the tech company game kind of late. And if we look at what they are today, it’s still a media company. I mean, they’ve bought up all these other media companies, Tumblr and Flickr and the things that do well are stocks and sports. None of these are their search business. At the end of the day, they’re getting sold to Verizon. I mean, I think maybe I would call this successful if they had managed to get more out of the patents, maybe some kind of like rev share in perpetuity with Google where they could actually make money from each and every one of Google’s searches through that license or something. I don’t think that’s the best way for a company to make money or the most noble way but it seems like a way that they could have gotten something better out of this deal.
And I’m going to call this a D because while not being a total failure, this did not help Yahoo compete in what would eventually become entirely Google’s market.
David: Yeah. I’m going to give two grades here as I sometimes exercise my right to do. I’m going to grade Yahoo, and yeah, I'm with you, like D. This was the wrong thing to do. Everything about it was wrong. They should have just essentially sold themselves to Google. But regardless, trying to acquire all these mish-mash companies and rebuild Panama and like “we’re going to be Google” at their own game even though we’re not a technology company culture-wise wasn’t going to work. But, I’m going to say like A+++ for the startup ecosystem because I know I’ve said this several times on this episode, but like I can’t underscore enough how important Hadoop and all of the technology and all of the people who come out of Yahoo’s efforts with Panama become in the next 15 years of tech. You know we talked about Jeff Wiener, we talked about the importance Hadoop the technology, and then Hortonworks and Cloudera directly come of those people as well.
But there’s actually even another set of companies. WhatsApp would not have happened I don’t think without Project Panama because Brian Acton and Jan Koum, they worked on Project Panama at Yahoo, that’s where they met and then they left and they started WhatsApp. So the list just goes on and on. It’s almost like a PayPal mafia type moment.
Brian: Actually, people forget that Yahoo was a huge player in web 2.0 and web technologies coming back. I mean, with the Flickr acquisition, Delicious acquisition, they made a stab there – this was almost on a side – they made a stab there at a very important moment in time remaining relevant and providing support for a lot of people that would go on to do things that create the world that we know today.
David: You mentioned Flickr. Even Stewart Butterfield who’s founder and CEO of Slack now, it’s both so sad for Yahoo that they had this talent and these technologies within the company and now they’re part of Verizon. But also, just so great for innovation in the ecosystem that these people passed through there and met one another. I think that’s the magic of Silicon Valley, is these interactions that you can’t foresee between technologies and people and companies lead to this innovation that takes the world to new places.
Brian: Well, my grade is going to end up being a C and I’ll explain why in a second. It’s partially grading on a curve because the intentionally of the acquisition is to buy the pieces that will allow you to copy the greatest advertising machine as we said several times now in the history of the world. So, if that’s your intention to create, to put the pieces together that will create what we now know to be Google, then absolutely A+, you’ve got to make that acquisition. It’s an F in terms of how it turned out because in the end, they say don’t bring a knife to a gun fight. If you fail to bring engineers to an engineering battle, then you’re never going to have a chance of success. The reason I'm going to give it a C is because of the fact that Yahoo existed as long as it did. Because remember, they’re coming out of the bubble, their entire business model is evaporating overnight. I think their revenues were about a billion dollars around 2001 and then as high as $7 billion by the end of the decade. The fact that Google made billions and billions and billions more than them does not hide the fact that they were able to sputter along even if they weren’t able to successfully copy that model. That acquisition still allowed Google to be a big enough player that Microsoft wants to buy them for, what was it, $35 billion or something and kept them going as a multibillion dollar profitable concern all the way into the second part of this decade; got them to 20 years as an independent company. So I’m going to give it a C because it did do its intention which was save the company, shift to this new way of doing business, survive the dot-com bubble and remain a player. They didn’t become the player the Google became but the acquisition did allow them to get this far.
David: That’s a great point.
Ben: Yup. A lot of shareholder value for a lot of years there that I glazed over in saying they didn’t beat Google and sold to Verizon. Like there’s 15 years in the middle that weren’t so bad.
David: All right. With that, should we move on to Carveouts?
Ben: Yeah, let’s do it. Let’s do it. I’ve got a quick easy read that is I would say fun but it might make you take a hard look at things. My buddy is getting married in September and he sent me some of the stuff he was reading and he loved this one article: The Secret to Love is Just Kindness. This is a bunch of research done over a 20-year period by Dr. John Gottman actually here at the University of Washington from research conducted with couples. There’s a lot of really good stuff in there. If you’re in a relationship, not in a relationship, like whether you’re looking at your relationship with someone romantically or if it’s other people in your life, co-workers, friends, family, it’s a lot of really interesting just observations about the way people who are together for extended periods of time interact, and here’s one quick little quote from it that I found really fascinating:
“Having a conversation sitting next to their spouse was, to their bodies, like facing off with a saber-toothed tiger. Even when they were talking about pleasant or mundane facets of their relationships, they were prepared to attack and be attacked. This sent their heart rates soaring and made them more aggressive toward each other.”
This is talking about there are sort of two different types of couples that from all these years of research, they were sort of the ones that succeeded and the ones that failed. The ones that failed years before they failed were exhibiting these intense biological signs of heart racing when they were around each other yet were exhibiting complete sort of calm stone-faced demeanors to the world. So, imagine trying to read a person that you’re around extremely often and having that internal turmoil in both of you biologically but representing it as a very amicable relationship. The findings are super fascinating. I highly recommend you go read it for whatever purpose in your life.
Brian: That sounds especially dangerous as a recommendation because what if you’re in relationship and you read this and you’re like, “Uh oh, I’m identifying with that problem.”
Ben: Well, you know, I zoomed in there on the sort of one of the most crazy, negative comments of the piece, but really the goal is, it turns out that the secret to love in all forms truly is kindness. I think there can only be a gain by more people whether it’s you and your partner or you and the people around you reading it.
David: Well, this discussion is judging on memories and emotions and turmoil for me because I have a lot of experience with Dr. Gottman’s work. His research basically forms the core of this really famous course at GSP at the Business School in Stanford that I took and that almost everybody takes called Touchy Feely. And it’s basically one of the most intense – it’s certainly the most intense experience that you go through at GSP, and I did. You get put in these groups of 12 people, you and 11 other people, and then you sit in a room once a week for six hours at a time with a food break in between and you just sort of talk and see what happens. But you prepare for it by reading Dr. Gottman’s research. Anyway, it’s a really cool experience and had a big impact on me and generations of people that have gone through GSP.
David: With that, mine is really quick. As my friends know and many of my friends know and other folks, my wife Jenny and I are on an extended trip throughout Europe right now which is why Ben and I are recording remotely for the next few episodes. We just visited Berlin last week and I’ve never been before but I was blown away. Such a cool city and the fact that everything was just destroyed in World War II and seeing this incredible architecture of sort of modern, new building and growth in the ruins of this old city and the cultures there. We got to meet with a bunch of really cool startups there, a great tech scene. Can’t recommend it highly enough. If you have a chance to visit Berlin, lots of cool stuff going on there.
Brian: My Carveout for you then in particular is I hope you get to go to Vienna soon.
David: Oh, we went to Vienna right afterwards. So different but also very cool.
Brian: Right. What I like about that is Vienna actually does have a center, a core of the city that survived that wasn’t completely bonded into ruins but then it’s environment is sort of like that modernist architecture that Berlin is so famous for.
But my larger takeaway, aside from I recommend everyone check out the Internet History Podcast because –
Ben: So good.
Brian: I think it complements this one in the sense that this show looks at history from sort of an analytical angle, from a “strategery” angle, from sort of an MBA angle. And the Internet History Podcast is trying to look at it 100% from a historical angle. I like to call my interview episodes oral histories where I just let people sit down and tell me how they did the stuff that they did. And there’s going to be a book coming out sometime next year with Norton, currently called How The Internet Happened, and I'm basically going to be using what I’ve learned from the podcast to tell the story of tech from the Netscape IPO through the launch of the iPhone.
However, plug aside, shameless plug aside, because I’m coming here from the history angle, I thought I’d come to the table with a history book. It’s one of my favorite books that I’ve ever read and I basically only read history. It’s called The Dark Valley: A Panorama of the 1930s by Piers Brendon. The reason that – first of all, it’s just amazing one way or another. I read it maybe 20 years ago now. But the 1930s is obviously the decade of the great depression, the Nazis coming to power, the prelude to World War II. And I always thought of this book as wow, can you imagine what it would be like to live in interesting times, you know, that proverb “you shouldn’t wish to live in interesting times.” Well, I'm not making the analogy to today that we’re living in a new 1930s but I do think that that book is probably more relevant now that we’re definitely living in interesting times to say the least. So I’m recommending The Dark Valley: A Panorama of the 1930s by Piers Brendon.
Ben: Very cool.
David: And we should say too we’ve talked about Brian’s show on our show several times in the past, but it is so good. And if you like our show or if you like Brian’s show, I think our shows form a natural counterpoint to one another.
Brian: Like two hands clasping.
David: Yeah. The great work that Brian does over at IHP.
Brian: Well, thank you much.
Ben: Well, Brian, thank you so much for coming on. We really appreciate it.
Brian: An absolute pleasure because, again, doing the history angle I would have told the story and actually I probably wouldn’t have gone into much detail. So the ability to flex my muscles a bit and analyze is a lot of fun. So it’s been fantastic.
Ben: And boy, I’ll tell you it was awesome having your diligence and research and kind of academic historical approach here on this episode today.
Well, listeners, that’s it. Number one, thank you to our sponsor for this episode, Silicon Valley Bank. Number two, feel free to join us on the Slack. I looked last night, we’re 470 strong. So come join us and talk all things M&A, IPOs, tech and strategy. And if you have been a fan for a long time or if you’re new to the show and want to give it a little boost, we’d love reviews in the iTunes store. It’s how we can continue to grow the show, have more guests and continue to dedicate more time to producing more episodes. So yeah, that’s it. Thanks a lot, everyone.
We finally did it. After five years and over 100 episodes, we decided to formalize the answer to Acquired’s most frequently asked question: “what are the best acquisitions of all time?” Here it is: The Acquired Top Ten. You can listen to the full episode (above, which includes honorable mentions), or read our quick blog post below.
Note: we ranked the list by our estimate of absolute dollar return to the acquirer. We could have used ROI multiple or annualized return, but we decided the ultimate yardstick of success should be the absolute dollar amount added to the parent company’s enterprise value. Afterall, you can’t eat IRR! For more on our methodology, please see the notes at the end of this post. And for all our trademark Acquired editorial and discussion tune in to the full episode above!
Purchase Price: $4.2 billion, 2009
Estimated Current Contribution to Market Cap: $20.5 billion
Absolute Dollar Return: $16.3 billion
Back in 2009, Marvel Studios was recently formed, most of its movie rights were leased out, and the prevailing wisdom was that Marvel was just some old comic book IP company that only nerds cared about. Since then, Marvel Cinematic Universe films have grossed $22.5b in total box office receipts (including the single biggest movie of all-time), for an average of $2.2b annually. Disney earns about two dollars in parks and merchandise revenue for every one dollar earned from films (discussed on our Disney, Plus episode). Therefore we estimate Marvel generates about $6.75b in annual revenue for Disney, or nearly 10% of all the company’s revenue. Not bad for a set of nerdy comic book franchises…
Total Purchase Price: $70 million (estimated), 2004
Estimated Current Contribution to Market Cap: $16.9 billion
Absolute Dollar Return: $16.8 billion
Morgan Stanley estimated that Google Maps generated $2.95b in revenue in 2019. Although that’s small compared to Google’s overall revenue of $160b+, it still accounts for over $16b in market cap by our calculations. Ironically the majority of Maps’ usage (and presumably revenue) comes from mobile, which grew out of by far the smallest of the 3 acquisitions, ZipDash. Tiny yet mighty!
Total Purchase Price: $188 million (by ABC), 1984
Estimated Current Contribution to Market Cap: $31.2 billion
Absolute Dollar Return: $31.0 billion
ABC’s 1984 acquisition of ESPN is heavyweight champion and still undisputed G.O.A.T. of media acquisitions.With an estimated $10.3B in 2018 revenue, ESPN’s value has compounded annually within ABC/Disney at >15% for an astounding THIRTY-FIVE YEARS. Single-handedly responsible for one of the greatest business model innovations in history with the advent of cable carriage fees, ESPN proves Albert Einstein’s famous statement that “Compound interest is the eighth wonder of the world.”
Total Purchase Price: $1.5 billion, 2002
Value Realized at Spinoff: $47.1 billion
Absolute Dollar Return: $45.6 billion
Who would have thought facilitating payments for Beanie Baby trades could be so lucrative? The only acquisition on our list whose value we can precisely measure, eBay spun off PayPal into a stand-alone public company in July 2015. Its value at the time? A cool 31x what eBay paid in 2002.
Total Purchase Price: $135 million, 2005
Estimated Current Contribution to Market Cap: $49.9 billion
Absolute Dollar Return: $49.8 billion
Remember the Priceline Negotiator? Boy did he get himself a screaming deal on this one. This purchase might have ranked even higher if Booking Holdings’ stock (Priceline even renamed the whole company after this acquisition!) weren’t down ~20% due to COVID-19 fears when we did the analysis. We also took a conservative approach, using only the (massive) $10.8b in annual revenue from the company’s “Agency Revenues” segment as Booking.com’s contribution — there is likely more revenue in other segments that’s also attributable to Booking.com, though we can’t be sure how much.
Total Purchase Price: $429 million, 1997
Estimated Current Contribution to Market Cap: $63.0 billion
Absolute Dollar Return: $62.6 billion
How do you put a value on Steve Jobs? Turns out we didn’t have to! NeXTSTEP, NeXT’s operating system, underpins all of Apple’s modern operating systems today: MacOS, iOS, WatchOS, and beyond. Literally every dollar of Apple’s $260b in annual revenue comes from NeXT roots, and from Steve wiping the product slate clean upon his return. With the acquisition being necessary but not sufficient to create Apple’s $1.4 trillion market cap today, we conservatively attributed 5% of Apple to this purchase.
Total Purchase Price: $50 million, 2005
Estimated Current Contribution to Market Cap: $72 billion
Absolute Dollar Return: $72 billion
Speaking of operating system acquisitions, NeXT was great, but on a pure value basis Android beats it. We took Google Play Store revenues (where Google’s 30% cut is worth about $7.7b) and added the dollar amount we estimate Google saves in Traffic Acquisition Costs by owning default search on Android ($4.8b), to reach an estimated annual revenue contribution to Google of $12.5b from the diminutive robot OS. Android also takes the award for largest ROI multiple: >1400x. Yep, you can’t eat IRR, but that’s a figure VCs only dream of.
Total Purchase Price: $1.65 billion, 2006
Estimated Current Contribution to Market Cap: $86.2 billion
Absolute Dollar Return: $84.5 billion
We admit it, we screwed up on our first episode covering YouTube: there’s no way this deal was a “C”. With Google recently reporting YouTube revenues for the first time ($15b — almost 10% of Google’s revenue!), it’s clear this acquisition was a juggernaut. It’s past-time for an Acquired revisit.
That said, while YouTube as the world’s second-highest-traffic search engine (second-only to their parent company!) grosses $15b, much of that revenue (over 50%?) gets paid out to creators, and YouTube’s hosting and bandwidth costs are significant. But we’ll leave the debate over the division’s profitability to the podcast.
Total Purchase Price: $3.1 billion, 2007
Estimated Current Contribution to Market Cap: $126.4 billion
Absolute Dollar Return: $123.3 billion
A dark horse rides into second place! The only acquisition on this list not-yet covered on Acquired (to be remedied very soon), this deal was far, far more important than most people realize. Effectively extending Google’s advertising reach from just its own properties to the entire internet, DoubleClick and its associated products generated over $20b in revenue within Google last year. Given what we now know about the nature of competition in internet advertising services, it’s unlikely governments and antitrust authorities would allow another deal like this again, much like #1 on our list...
Purchase Price: $1 billion, 2012
Estimated Current Contribution to Market Cap: $153 billion
Absolute Dollar Return: $152 billion
When it comes to G.O.A.T. status, if ESPN is M&A’s Lebron, Insta is its MJ. No offense to ESPN/Lebron, but we’ll probably never see another acquisition that’s so unquestionably dominant across every dimension of the M&A game as Facebook’s 2012 purchase of Instagram. Reported by Bloomberg to be doing $20B of revenue annually now within Facebook (up from ~$0 just eight years ago), Instagram takes the Acquired crown by a mile. And unlike YouTube, Facebook keeps nearly all of that $20b for itself! At risk of stretching the MJ analogy too far, given the circumstances at the time of the deal — Facebook’s “missing” of mobile and existential questions surrounding its ill-fated IPO — buying Instagram was Facebook’s equivalent of Jordan’s Game 6. Whether this deal was ultimately good or bad for the world at-large is another question, but there’s no doubt Instagram goes down in history as the greatest acquisition of all-time.
Methodology and Notes:
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Transcript: (disclaimer: may contain unintentionally confusing, inaccurate and/or amusing transcription errors)
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