The analysis by Peachtree Media Advisors in New York shows that Internet-related M&A dollars plummeted 62% from last year's $44.4 billion, even as the overall number of deals increased almost 15% to 707.
Boosting the dollar total last year were transactions such as Microsoft's $6 billion acquisition of aQuantive, Google's $3.1 billion buyout of DoubleClick and WPP Group's $650 million purchase of 24/7 Real Media.
"There were less of those huge deals, and the reason is because a lot of the diversified media companies that were doing the buying have seen their own valuations go down," said John Doyle II, founder and managing director of Peachtree, an investment bank that focuses on the interactive marketing and out-of-home ad sectors.
Meanwhile, 2008 was defined in M&A terms by a major deal that did not get done: Microsoft's proposed $4.7 billion takeover of Yahoo.
The biggest chunk of M&A dollars--$6.2 billion, or 37%--nevertheless went toward consumer-focused businesses including social networks, online gaming and video properties, blogs and content sites.
Online business services including ad networks and lead-generation accounted for $4.8 billion, or 28%; e-commerce and classifieds, $2.8 billion (16.7%); ad-serving and Web analytics, $2.5 billion, (14.6%); and mobile content and applications, $592 million, (3.5%).
The biggest individual deal in the consumer category was CBS' bagging of CNet for $1.8 billion. AOL's $850 million acquisition of social network Bebo in March was another high-profile purchase. But that deal epitomized a perceived overvaluation of consumer Internet companies that led buyers to pull back on larger-scale transactions last year.
"People feel that AOL overpaid for Bebo," said Doyle. "It's made it like, 'we don't want to make that same mistake." Under increased financial pressures themselves due to the recession, big media companies have less leeway to go out and make splashy deals. "They have to justify real tangible returns on these large acquisitions," added Doyle.
In the Peachtree report, he warns that the AOL/Bebo deal "could decimate deal making in the social media sector for months to come." In 2008, however, social networking sites represented the most active M&A category, with a total of 102 transactions--up from 85 in 2007.
When it comes to raising venture capital, Internet companies managed to keep funding flowing last year. Investment increased 22% to $3.5 billion from $2.9 billion, with ad-serving and Web analytics businesses and mobile startups enjoying the biggest gains. The latter increased financing nearly sixfold to $341 million.
But the Peachtree figures showed that venture financing slowed significantly during the year. There were 99 venture transactions amounting to a total of $1.1 billion in the first quarter, compared to 73 raising a total of $535 million in the fourth quarter.
"With investors less willing to finance cash burn from operations, online media companies are being forced to turn a profit or face selling to a strategic buyer at a relatively low valuation," according to the report.
The pool of venture capital may also start to dry up as investors shift dollars from online media to green technology and health care companies.
That all adds up to a more challenging test for Internet businesses in 2009. "The companies that are able to endure the next 12 months will have a crystal clear understanding of who their customer is, what they are selling, and then develop a strong relationship with that customer," advises the Peachtree report.
For Web publishers, that means a sharper focus on aligning advertisers with their core audience by creating niche properties targeting particular consumer demographics. Investors will also be looking beyond just eyeballs, imposing higher demands for revenue growth and profitability.
The outlook is not entirely bleak. The investment firm expects social networking sites to continue steady growth, projecting that the economic downturn will prompt people to spend more time socializing online instead of going out. It also predicts gains for lead-generation and direct marketing players as online retailers increasingly turn to them to find customers.
Doyle also expects deal-making to rebound as buyers and sellers begin to find common ground on pricing again. "I see it picking up towards the second half of the year," he said. "Companies are going to bring down valuations or not be in business."