Why Tech Mergers May End Up Hurting the Web

[qi:115] Suddenly, it’s mating season in the tech sector. Xerox (s xrx) is paying $6.4 billion for a piece of the cloud, Adobe (s adbe) is hooking up with Omniture (s omtr) and Intuit (s intu) with Mint, and that may just be the start. As Om pointed out, this is good news for startups and entrepreneurs, especially those with money tied up in late-stage investments that aren’t likely to go public soon. But is a wave of mergers necessarily a good thing?

Not always. And particularly not right now when it comes to web and social media startups, many of which are still more focused on innovation and building up audiences than on making profits. Rushing them into deals to fulfill long-delayed plans for an exit strategy could derail the evolution of a strong business plan.

From an investment standpoint, founders and venture capitalists have good reasons to cash out now. Market caps of public tech giants are rising — the Nasdaq gained 15 percent last quarter alone – and so are their cash stockpiles: Microsoft (s msft) is sitting on $49 billion in cash; Google (s goog), $24 billion. The IPO market is coming back to life, but not enough to meet the pent-up demand. And high-profile deals like the ones we’ve seen recently have a way of spurring on other acquisitions.

The risk is that, just as the quality of IPOs tends to deteriorate the longer a market boom lasts, a wave of M&A deals will bring on marriages that make less and less sense. Sure, Amazon (s amzn) buying Zappos was a good transaction all around, as was Facebook’s investment in Friendfeed. But we’re already seeing some that, from a user standpoint, are questionable. As a fan of Mint, am I really going to benefit from its purchase by Intuit? When your biggest competitor takes you over, it blunts the competitive spirit that can drive innovations.

Internet mergers rarely happen for the reason they do in older industries — to cut costs through consolidation. More often, they involve an aging company buying a young, promising one to amp up revenue growth. TimeWarner (s twx) buying AOL and eBay (s ebay) buying Skype come to mind. Even snapping up a hot startup for its technology or talent — Google buying Dodgeball or Yahoo (s yhoo) buying Flickr – can lead to culture clashes, customer anger and other disappointing results.

Yet expectations are high that more web mergers are on the way. Sandeep Aggarwal, an analyst at Collins Stewart, argued in a report this week that growing confidence in the economy and broader adoption of the Internet will keep deals coming. He lists 20 startups and matches them with five Internet giants.


Aggarwals’ report has some interesting points, so it may be unfair to nitpick over some potential matches. But just because, say, Microsoft could easily buy SecondLife, Yahoo could go after Digg or eBay, Zillow, should they? Many of the deals would benefit investors more than users, and that’s often a recipe for a messy marriage. There are times when mergers make sense, but for web companies, now is not one of those times.