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Tuesday, 28 August 2012

Why is Facebook worth $10bn?

*This is a reprint of Vinny Lingham's (Yola.com) blogpost.
Last month, I made the “way out” prediction that Facebook would be sold for $10bn, probably to Microsoft. A couple of my readers asked for justification, and I basically gave the “this is war” approach – since then, I’ve given it further thought.
In this post, I will attempt to give a business perspective (as if I were running Facebook and trying to justify a value to buyers) on how to get to a $10bn valuation. Remember that Facebook has nearly 40m registered users who share their most intimate details with Facebook (in a structured format), in contrast to Google’s 124m users (which it knows nearly nothing about in general – as many are casual searchers) & Yahoo’s 127m users, many of which Yahoo has some data about – however disparate.
Facebook currently earns around $150m/year in revenue with a reported $30m in profits. On a 1% yield (100 PE), given that it’s a fast growing business, one could argue that it’s worth $3bn, based on it’s existing website advertising & gift revenues.
Now, how do we ramp up the other $7bn? Value add to the acquirer, of course – in my opinion, either Google or MSN (but let’s not discount Yahoo, just yet). Let me just touch on Google/MSN/Yahoo very quickly to put things in perspective.
Google currently earns around $5bn/annum in AdSense (3rd party advertising revenues). As a percentage of total revenues, it’s roughly a third – so one could argue that the AdSense side of the business is worth an estimated $50bn on valuation (as a % of Google’s total market cap). I’m not sure what Google’s market share for online advertising in the contextual space is, but it’s probably something crazy like 50%+, globally (if someone knows, please comment). What makes Google so powerful? It’s large distribution network of publishers, and specifically it’s global advertiser base.
MSN’s Content Ads is similar to Google’s Adwords/Adsense, except that Microsoft have gone after the ability to “boost” bid prices for audiences, based on demographic target, in addition to the contextual nature of the advertising. Google does not offer this functionality, as such, just yet.
Yahoo has a similar system to Google, with their Yahoo! Publisher Network. So, in short, Yahoo, Google & MSN have advertisers, and primarily contextual based advertising systems (contextual means that the advertising served to readers is based upon what they’re reading, not who they are – except for MSN).
Facebook has the data around users that MSN, specifically, needs to improve the ability for advertisers to target reader, regardless of which web pages they are reading. What is this worth to them? If we assume that if Facebook goes the direct route, and competes with Google/MSN/Yahoo for the contextual market, what would they have to do?:
1. Build a contextual advertising system (or partner)
2. Recruit web publishers & advertisers (or acquire someone like AdBrite, etc)
3. Create a more targeted version of AdSense/Content Ads/YPN – and serve more relevant advertising and compete with the big 3.
If they executed the above, would it be fair to say, that within 3 years, it is possible to assume that Facebook could acquire a 10% market share of the contextual advertising market. The question is, what is that market worth? Well, from the earlier points above, probably an estimated $10bn in revenues, and with revenue multiples of 10x, and if we’re probably looking at Facebook generating at least $1bn from Contextual Advertising, then the future value (looking forward 3 years), would be about $13bn ($10bn + $3bn of on site revenue).
Yes, ladies and gentlemen – I’m saying that Facebook probably has a net present value of $10bn, based upon the fact that it could become a credible competitor to Google, Yahoo & MSN in the contextual advertising market. In fact, it’s probably worth more if the titans got into a bidding war for it. Remember, if they get acquired, specifically by MSN, the 3 year period to build a user targeted advertising system would be significantly shorter and would put pressure on Google Adsense & Yahoo Publisher Network with respect to product offering to web publishers.
My $10bn Facebook valuation is based upon 2 things – A) Future value still to be unlocked & B) Strategic value to MSN/Google/Yahoo
Time will tell…

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