I’ve recently spoken to a number of people at traditional media companies and there seems to be an increasing sense at the highest levels of these organizations that this ‘Internet thing’ just doesn’t work. In many ways, you can’t blame them either with Scripps recently selling off uSwitch at a fraction of the price it paid. Things seem to be going so badly at Bebo that AOL is reportedly considering shutting it down for the tax benefit—unlikely the return that AOL/Time Warner envisioned when it paid $850 million for it way back in 2008. And now you have News Corp (the one player that everyone thought “got it”) seemingly ready to rid itself of every digital media asset it bought over the last few years. While I highlight these high profile examples (and let’s not forget CBS and CNET/Last.fm), the truth is that no media company has been immune to this carnage, even at Hearst where I work.

So what exactly happened? In my opinion, the biggest mistake many media companies made was simply buying the wrong types of assets. Instead of pursuing platforms that leveraged the network effects of the Web, media companies went after digital businesses that they understood, so ad supported, editorial-based content sites. The challenge was the success of most media companies never really came from the quality of their content, but rather the proprietary ownership of analog distribution infrastructures. This distribution advantage does not exist online and competing more on the merits of the content has proven much more difficult than any media company could have ever imagined. For those media companies that made more prudent decisions and targeted platforms versus content businesses, most were unable to find ways to properly incent and motivate key personnel who were more comfortable in entrepreneurial environments and had just been handed multi-million dollar payouts. What a shocker, huh? 

So what does all this mean and what will be the fallout? First, I believe strongly that the exit strategy of selling to a media company is all but dead for entrepreneurs and venture capitalists over the next several years. Sure, we might pay $5-15m for a tuck in here or there, but the days of the single transformational acquisition for these companies is over in my opinion. There is just too much bleeding in the core business units and too much scar tissue from failed Internet promises for most traditional media organizations to go down that path again.

The second, and larger, implication is I expect all types of acquirers to eventually reassess the multiples that they pay for digital media and platform businesses. After all, I am hard pressed to think of more than a handful of $100m+ acquisitions in this space that will actually pay off over time. In fact, as I sit here writing this, Paypal and Overture are the only ones that easily come to mind. I know that there are others and welcome the responses, but please don’t mention MySpace. Had they not been blessed with scoring that wildly unprofitable deal for Google, Rupert probably would have jettisoned it years ago.

As I learned in business school, the multiple paid for a business should at least equate to the sum of its future discounted cash flows. In the digital world where distribution is available to most everyone, market dynamics change every few years, if not every few months. This makes the evaluation of future cash flows more difficult than any other industry so, at a minimum, the discount rate applied should be drastically increased. Additionally, with it difficult to retain core founding teams who would rather be entrepreneurs than operators of a business unit inside of a larger corporation, buyers often lose the only leadership that had a chance of attaining those expected future cash flows. Should this view of the market become more widespread, M&A multiples for digital media and platform companies would compress significantly. That is clearly not happening any time soon however as startup valuations continue to go up and up. I guess maybe it’ll all be different this time around…