A Few Reasons Why You Shouldn't Ignore Yahoo!

Mike is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

At this point, Yahoo!'s (NASDAQ: YHOO) well-publicized acquisition of next-generation blogging platform Tumblr should be old news to anyone with an Internet connection. Tech experts and investors agree that Yahoo!'s alternately maligned and celebrated $1.1 billion purchase represents a watershed moment in the history of the Sunnyvale, California-based technology company. It remains to be seen whether this turns out to be a prescient acquisition that improves Yahoo!'s place in the tech landscape or a white elephant that sets its operations back by years.

Yahoo! has also expressed interest in purchasing the potentially disruptive online streaming service known as Hulu. If these reports are accurate, the company might be in line to control a significant share of the post-cable market for shows, movies, and other videos. More importantly, Yahoo! might genuinely be able to compete with larger rival Google (NASDAQ: GOOG) in the all-important online video and multimedia space. Although Hulu is not yet in a position to take on YouTube, investors would be wise to watch this situation closely.

In the same league? Yahoo!, Google, and AOL

Operationally, Yahoo! straddles the line between the search-based platforms that have made Google so successful and the content-focused business model that has kept AOL (NYSE: AOL) from disappearing into ignominy. The company's search and multimedia offerings are more varied than those of AOL, but less integral to users' everyday online experiences than those of Google. As such, it might be useful to conduct a side-by-side comparison of all three of these firms. 

Google is the largest of the three. At last check, the company's market capitalization came in at just over $290 billion. In comparison, Yahoo!'s market capitalization sits between $28 and $29 billion, and AOL's valuation comes in at $2.6 billion. Google also earns far more revenue than Yahoo or AOL. In 2012, the company earned $11.2 billion on gross revenue of $53.5 billion. This made for a robust profit margin of over 20%.

Meanwhile, Yahoo! earned about $4 billion on revenue of just under $5 billion. While it is unclear whether this profitability can be sustained, these numbers made for a margin of over 80%. Finally, AOL earned just over $1 billion on total revenue of $2.2 billion. The company's profit margin sat near 50%.

These companies' balance sheets display little similarity. Whereas Yahoo! has a small debt load of about $36 million and a cash hoard of around $3 billion, AOL has about $104 million in debt and $467.8 million in cash. Google has more than $11 billion in debt and over $50 billion in cash. It also has an ample operating cash flow of over $16.5 billion. In contrast, AOL has a narrower cash flow of $386 million. In a worrisome development, Yahoo!'s cash flow recently turned negative. Of course, this may be partially due to its recent spending spree.

Yahoo!'s Tumblr purchase

Yahoo! recently reported that it would spend $1.1 billion to acquire Tumblr. Since the blogging platform has a dedicated following of young, hip users, Yahoo! has taken pains to stress that Tumblr will operate as a separate entity within the company's corporate ecosystem. The goal of the acquisition seems to be to attract users to Yahoo!'s corner of the Web for longer periods of time and foster a greater affinity for its services among young, affluent consumers. 

Potential offer for Hulu

Yahoo! appears ready to pull the trigger on Hulu as well. According to reports, this acquisition could cost the company up to $800 million and may provide it with a strong foothold in the rapidly growing online streaming space. With Hulu positioned as the primary source of television-based entertainment for millions of younger consumers, Yahoo! could inadvertently find itself competing with Netflix and other big cable companies in the not-too-distant future.

What is Yahoo! building? Can it work?

These two acquisitions demonstrate that Yahoo! remains committed to moving beyond its legacy advertising and content businesses. Although the company's stock has not jumped by a tremendous amount in the wake of the Tumblr acquisition, its broad rise over the past several months has encouraged long-term investors. 

Yahoo! clearly wishes to parlay this momentum into the development of a multimedia content ecosystem that is deeper and more sophisticated than that of the Huffington Post. Ultimately, the company's video channels and blog platforms could support tremendous amounts of ad revenue and threaten Google's pole position within the broader tech ecosystem. While Yahoo! has a long way to go before it can call itself Google's equal, it may currently be taking the first steps towards this goal. Of course, there are no guarantees in the fast-evolving technology space. A disruptive newcomer could always render Yahoo!'s strategy obsolete.

Invest or stay away?

Although Yahoo! can easily afford these acquisitions, it seems likely that it will take some work to integrate the operations of Tumblr and Hulu into Yahoo!'s compartmentalized corporate structure. Moreover, the financial impacts of these purchases will linger on Yahoo!'s balance sheet for the foreseeable future. However, both buys offer intriguing possibilities that investors cannot ignore.

Going forward, investors may wish to re-evaluate their pessimistic outlooks on Yahoo!. Relative to Google, the company remains quite cheap. While it probably will not trade at Google's multiples in the near future, it is probably worth more than its current price indicates. As such, investors who initiate a long position in the company at these levels could be handsomely rewarded.

As one of the most dominant Internet companies ever, Google has made a habit of driving strong returns for its shareholders. However, like many other web companies, it's also struggling to adapt to an increasingly mobile world. Despite gaining an enviable lead with its Android operating system, the market isn't sold. That's why it's more important than ever to understand each piece of Google's sprawling empire. In The Motley Fool's new premium research report on Google, we break down the risks and potential rewards for Google investors. Simply click here now to unlock your copy of this invaluable resource.

Mike Thiessen has no position in any stocks mentioned. The Motley Fool recommends Google. The Motley Fool owns shares of Google. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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