Google, News and LIPO

abnormalreturns
August 8th, 2006

Despite our prior protestations we are not going to make a habit of delving into the news surrounding specific companies, but something struck us about the announcement of an paid search and advertising deal between Google (GOOG) and News Corp. (NWS).

Julia Angwin and Kevin J. DeLaney at the Wall Street Journal have a summary of the deal including a discussion of the competitive implications for Google’s competitors in the search space. Investors are now no longer worried that MySpace’s massive traffic will be monetized.

What struck us was the uncanny parallels between Rupert Murdoch’s handling of his inernet properties and what we have seen recently from private equity investors. In a sense Murdoch, to-date, has been following a private equity like model in regards to building up and funding his now profitable push into the Internet space.

The private equity model of late has been a four step process.

Purchase a company in whole or in concert with other private equity firms (a “club deal.”)
Supplement the equity capital with high yield paper from banks and the bond market.
Pay a massive dividend to the equity holders that, in a sense, reduces a significant portion of the equity risk capital.
Bring said company public again, at a higher valuation than the original “going private” transaction with a still meaningful stake in the ongoing public company.

(We would remiss if we did not mention Going Private for a much richer discussion of the state of the private equity industry and this “LIPO” process.)

Saul Hansell at the New York Times writes up the deal and provides this choice quote:

“In one fell swoop, we have paid for two-thirds of our Internet acquisitions,” Peter Chernin, the company’s president, said in a conference call with investors and reporters yesterday.

Rupert Murdoch and News Corp. in a sense have already completed the first two steps. First buy a series of Internet companies, the most prominent of which is MySpace.com. The second step has been accomplished by the Google deal. The Google arrangement in a public (and meaningful) way endorses the value of the business that News Corp. saw in the first place.

With the first two steps are accomplished, the only question is what News Corp. does next? The cash infusion from the deal provides Murdoch with the wherewithal to either continue building the business or the flexibility to cash out of the space with a merger or IPO. We have no idea what News Corp. will do at this point, but Joe Weisenthal at DealBreaker.com notes the very real possibility of a Fox Interactive Media offering.

As interesting as this deal is in terms of Murdoch’s deal-making skills it also has implications for the competitive space that is Internet search. Roger Ehrenberg at Information Arbitrage notes the competitive disadvantage that this deal has for Google’s competitors including Yahoo! (YHOO). The challenge being the management of both content generation and search. This deal in a sense brings those two businesses together without a corporate merger.

Diane Mermigas at the Hollywood Reporter fears that the time is once again right for additional old and new media mergers. Given the success of the AOL-Time Warner merger that may not be a positive sign.

However, as the so-called new- and old-media companies move closer to the center in their orientation to a consumer-driven competitive landscape, they will be tempted to respond with a more unified approach that reaches beyond the crossover alliances they are forging now. A swell of private equity and venture capital is available and ready to help support transactions.

We don’t know whether the media landscape will once again be dotted by hyphenated company names. Given the pressures facing old media the temptations are undoubtedly out there. We do not know what the future holds for this industry as whole, but we will keep an eye on Rupert Murdoch and News Corp. for insights.

*No positions in any of the securities mentioned herein.