(FROM BARRON'S 2/24/14)
After Wall Street finished choking on the news Wednesday night that
Facebook was spending $19 billion to acquire a five-year-old startup, calmer
heads stepped in to sort things out.
Yes, WhatsApp's purchase price, a mixture of $12 billion of Facebook
(ticker: FB) stock and $4 billion in cash, plus $3 billion in restricted
stock units, was staggering, analysts admitted. The most bullish of them,
however, offered models rationalizing the price as a not-unreasonable fee to
acquire each of the 450 million users the service has amassed.
That $19 billion represents $42 for each of those users, not far above
the nearest comparable, the $30 Facebook shelled out two years ago to buy the
picture-sharing service Instagram. Some point out, too, that the price was a
mere 9% above what Google (GOOG) paid per user to buy video-sharing service
YouTube in 2006, and quite a bit cheaper than the $131 per user that Twitter's
(TWTR) share price represents.
In other words, by Thursday morning, the logic of the WhatsApp deal was
completely self-referential, and utterly meaningless: The price was fair because
Facebook had already set the bar, and because public investors were willing to
pony up.
Perhaps to Facebook CEO Mark Zuckerberg, Facebook's share price of
$68.59 at Friday's close is a currency without cost or consequence. Both he
and WhatsApp co-founder Jan Koum don't seem to be about money, per se, but
rather about building things, which makes it all the more odd that so much money
is involved in the deal.
In fact, the conference call Zuckerberg held with analysts following the
announcement set a new standard for lack of financial disclosure. Having spent
$ 19 billion of investors' money, Facebook was in no hurry to disclose revenue
or profit figures. Asked how many people had signed up for the pay version of
WhatsApp, Facebook's chief financial officer stepped in to point out that
monetizing the service is not a priority. Nor was there any explanation of the
math behind the seemingly obscene price. Even basic questions, such as how many
people use both WhatsApp and Facebook, went unanswered.
Instead, Zuckerberg gushed: "They've built a product and a network that
has almost half-a-billion people actively using it in five years. No one in the
history of the world has done anything like that before."
But if there is little economic value at present, and if Zuckerberg can't
articulate how the two companies are stronger together than separate, who cares?
Why do the deal at all?
WhatsApp is a piece of software that can be downloaded to smartphones,
including Apple's iPhone, and phones running Google's Android operating system.
It's essentially a replacement for text messaging. You can send not only written
missives but also pictures, videos, and voice messages.
It's one of a gaggle of such programs that include Snapchat, Kik
Messenger, Viber, Tango, BlackBerry's venerable BBM message service, the
"iMessage" function on the iPhone, and Facebook's own Messenger program. A user
signs on the first time with a cell phone number, so it's not really private,
but it's more anonymous than services that require you to register with your
name.
The appeal to consumers is obvious: You can make an end-run around
carrier- messaging plans, especially those with exorbitant fees for texting
loved ones overseas. WhatsApp charges nothing for the first year and then asks
for a modest 99 cents per year thenceforth. Online testimonials are replete
with satisfied users who tell of long-distance marriages saved or fiancees wooed
abroad.
Blame the telephone companies, which have long nickel-and-dimed consumers,
for this phenomenon. The 19 billion messages sent daily on the service,
Zuckerberg pointed out, is nearly the equivalent of the volume of all SMS
texting in the world. Research firm Ovum has estimated that carriers lost almost
$33 billion in texting revenue last year to WhatsApp and its peers.
If you think of Facebook as having acquired the replacement for the entire
global texting business, the deal might appear less crazy, but of course there
are still a lot of questions. How many users will stay, and how many will go?
How many are actually paying? Are the nifty features of WhatsApp nice enough to
forestall people switching to the next great free service?
One can imagine scenarios large and small. If half the user base pays a
dollar a year, that's almost a quarter of a billion dollars annually, not a huge
amount of revenue. If Zuckerberg is right in his prediction that the service
will grow to a billion users, and if half of those people pay, and if the fee
can be raised to, say, $5 a year, on average, assuming add-on services, one
can foresee $2.5 billion a year or more in annual revenue, which is real
money.
All of which is to say that the rosier scenarios might be rewarding, but
they still wouldn't pay back the WhatsApp investment for some years, if ever.
The darker possibility is that Facebook simply had to do this. As Evercore
Partners' Ken Sena, who reduced the stock to Equal Weight from Overweight last
week, points out, Facebook has experienced slower growth among people aged 18 to
24, which appears to be the sweet spot for WhatsApp.
The same tech star who was recently propelled on his own vibrant growth
path is now paying through the nose, rather like a vampire sucking the blood of
the young to stay vital, because at least some of the traffic is going somewhere
else.
Facebook isn't alone. Multiple press reports last week indicated Google
had tried for a long time to woo WhatsApp, and might even have been willing to
top Facebook's final price.
But then we also know that Google tried and failed to pay $6 billion
back in 2010 for Internet coupons vendor Groupon (GRPN), which looks in
hindsight rather like a bullet dodged. We watched Google pay through the nose
for Motorola Mobility, only to come up with little to show for it.
In time, the purchase price will be forgotten, and Facebook will trade on
this or that metric of its business, as well as metrics for Instagram and
WhatsApp.
These are heady times. The bloom is off the rose. The startups of
yesterday, Facebook and Google, are buying traffic, buying activity, buying
phenomena. Dreams of supposedly "viral growth" have been replaced by The Deal,
and apparently no price is too high.
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