Ronnie05's Blog

Are valuations in Social Media stretched? (Cue:Under-promise, Over-Deliver. What about Over Promising?)

Posted in Social context, media and advertising by Manas Ganguly on May 20, 2011

Professional social networking site LinkedIn is raising the price at which it will sell shares in its forthcoming initial public offering (IPO). The new sale price values the firm at $4.3 billion rather than the earlier $3 billion. This comes in the wake of the fact that comScore reported 65% Y-o-Y increase, from 48 million users in March 2010 to 79 million as of March 2011 in traffic to Linkedin.LinkedIn made $15 million last year. It’s now worth $8 bln. That’s a P/E of 37+. Isn’t that a sign of bubble?

Signs of trouble yet?

In 1999-2000 Dotcom burst, overvalued dotcom – companies, which were not-profitable, went bankrupt and together with it millions of (invested) money and many jobs were lost! No one really knows if there is a bubble until after one pops. Nevertheless, there are many signs of froth. The valuations in Social Media are stretched a bit. Microsoft bought over Skype for $8.5 billion, Goldman Sachs has invested $1.5 billion in Facebook that has valued FB at $84 billion, Groupon is valuated for $15-$20 for its IPO listing. Such valuations are reminiscent of the dotcom bubble which busted 10 years ago.Twitter is being valued at $10billion and more. Zynga, creator of the popular Facebook game FarmVille, is worth more than $5 billion.Yammer, a system for sending Twitter-like messages inside businesses, recently raised $25 million, while investors reportedly signed a check for close to $30 million for a niche blogging site called Tumblr. GroupMe, a new group messaging app for cellphones, raised $9 million. Path, an iPhone app for sharing only photos on a social network limited to just 50 people, received $2.5 million. Its competitor, Picplz, scored $5 million. And those are just within the last few months. The trend accelerate over the last six to nine months. The valuation of Facebook has multiplied by a factor of 7 in the last 12 months.

Dotcom was different

Back in the ’90s, companies got funded for five times the amount that Tumblr raised and didn’t have anything close to a business model. People were getting $50 to $200 million a pop and it brought down an entire industry. The frenzy is as much the result of simple laws of supply and demand as the herd mentality. Thanks to the constantly falling cost of computing power, a start-up needs less money to get off the ground. More wealthy people are viewing investing in technology as a hobby, which has increased the competition. Investing in technology has become fashionable. It used to be that angel investing was the province of wealthy men. Now its become the province of everyone. Venture capitalists — hungry for growth and troubled by weak returns — are moving toward smaller investments, hoping to catch the next Facebook in its infancy.

Valuations and Companies will need to move with caution

There’s a lot of exuberance in the social media and technology. A lot of the valuations there don’t make a lot of sense.But, most Silicon Valley investors still see no signs of gloom and doom. Start-ups today have robust business models and business cases that make them viable. The Internet ecosystem has also matured. There is more to valuation than just eyeballs. It could be different this time! In 1999 when the bubble happened many companies did not have business models and advertising on the Web was very immature.2010 and onwards, the real challenge for start-ups flush with venture cash would be proving they were worth the investment or risk having to fold their companies.There may not be a big implosion, but down the road there will be a bunch of blood and tears. The music is going to stop and people will realize there aren’t enough chairs for companies to get the next round of financing. The High valuations though may be cheered for are long term liabilities on the entrepreneurs.The key question now is whether they can accelerate their revenue and earnings growth to eventually validate the valuations.

There are elements of the LinkedIn model – recruitment search – which reflect successful models elsewhere.The LinkedIn Valuation is, of course, just an appetiser for the big one – the prospective float of Facebook at some point in the not-too-distant future. How it is priced will provide a clearer picture of whether the possibly irrational exuberance around LinkedIn’s debut was specific to the dynamics of its offer or reflects the broader capitalisation of optimism about the commercial prospects for the major social networks.

A sound business proposition is the ability to under-promise and over-deliver. Currently the Social Networking valuations are very tall promises which make delivery (at such high order) a suspect. What we will need to wait and watch over the next 2 years is the ability of organizations to be able to spin the profits that the valuations oblige them to. If they cannot stand up to the expectations, then we all know that this is a bubble.We live in interesting times, dont we?

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