Yahoo! Inc.’s (NASDAQ: YHOO) $1.1 billion cash buyout of Tumblr already has been criticized because of the large sum involved compared to Tumblr’s extremely modest revenue, estimated at $13 million last year. However, the decision’s brilliance arises from Yahoo!’s needs to add audience and a means to tap a new online market that numbers in the tens of millions. M&A deals should be measured by their ability to transform the buyer as much as by an immediate, narrow financial effect.

Analysts have compared the Tumblr decision in relationship to AOL Inc.’s (NYSE: AOL) buyout of The Huffington Post and Google Inc.’s (NASDAQ: GOOG) purchase of YouTube. The three deals actually have little in common. AOL paid $315 million two years ago, a reasonable multiple give Huffington’s $60 million in sales the year before. In the process, AOL transformed the quality of its editorial content overnight. Google’s 2006 buyout of YouTube for $1.65 billion was not much of a gamble, based on the search company’s market cap and the fact the purchase was made with stock. Even if the decision has not paid off financially, it does put Google well ahead of all competition in the online video content business. Most experts believe YouTube eventually will pay off as the value of online video advertising rises.

The Yahoo! move with Tumblr represents one of the few deals the portal company could afford as part of a plan to take a large position in social media. As of March 31, Yahoo! had $5.4 billion in cash, short-term securities and long-term marketable securities. Twitter’s value has been estimated at more than $8 billion, which puts it out of Yahoo!’s reach. With Tumblr’s 29 million unique visitors in the United States, according to Comscore, Yahoo! could not find a larger acquisition to target Web 2.0 users. Yahoo! can reason Tumblr’s growth rate justifies the purchase price, along with Yahoo! advertising expertise that should allow its to build Tumblr’s revenue.

Critics argue the advertisers will not want to be put next to some of Tumblr’s more racy content, and the Tumblr users will find the presence of advertising offensive. Against that, Yahoo! can show that Facebook Inc. (NASDAQ: FB) faced the same hurdles just three or four years ago. The size of Facebook’s audience won over advertisers. Facebook users found the service important enough that their objections to advertising were short lived. Yahoo! can argue it is reasonable to wager that Tumblr’s revenue success may not be as fantastic as Facebook’s because of the social network’s size. However, based on their relative audiences, Tumblr’s annual revenue could reach into the hundreds of millions of dollars. If that happens, the $1.1 billion price is reasonable.

The most important aspect of the Tumblr deal is that Yahoo! needs a transaction that can be a large part of the transformation of the company. Its revenue is flat, and portal companies are considered ancient, in Internet years. Whether Tumblr fits seamlessly into the portal business may not be important. Yahoo! has admitted as much by the decision to keep Tumblr largely independent from Yahoo!’s main business. Tumblr gives Yahoo! scale in social media, and, that by itself is enough to argue the deal, at $1.1 billion, is brilliant.

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