In the wake of the Benchmark Bebo deal and Myspace NewsCorp sometime before that I have been thinking about what these companies are worth.
On the one hand they have A WHOLE LOT OF TRAFFIC – so there is unquestionably some value there. The question, is how much?
Now I’m an old fashioned guy when it comes to corporate finance but to me profits and cash flow are important. To really be worth a lot of money you need to have cash. At the risk of being boring; a company is worth the discounted value of its future cash flows.
Sometimes it seems like there are two investment philosophies out there in the London market. ‘Follow the hype curve’ and ‘invest on fundamentals’. I would be a fool if I never sought to capitalise on hype round a hot sector, but my leaning is towards investing on fundamentals. So before I can put a big value on a company I need to understand how it could make a lot of money, even if it isn’t doing it yet.
So to Bebo and Myspace. They have traffic in abundance, but how are they monetising that?
My understanding is that they are pursuing advertising models. Fair enough. The two issues they face are that advertisers are wary of advertising next to unknown and potentially offensive content (e.g. soft porn) and that users might find advertising intrusive and leave.
The response is to make “safe areas” where the content on the pages is understood. So they almost become traditional content businesses with a radical new method of sourcing traffic. Both Myspace and Bebo are doing this around music, in the first instance.
They have traffic and a clear way to build content so they can generate revenues (in addition there is the not insubstantial home page advertising revenues).
That leaves the questions of how much? and for how long?
To me there is a lot of uncertainty on both fronts.
The “safe areas” strategy sounds like a good one, but it is unproven. There is no way of knowing how much of these sites’ traffic can be monetised in this fashion so there is no way of knowing the quantum of revenues that can be generated.
There is also no way of knowing if the current popularity of these sites will be maintained. They are new, there is no history we can look at to inform us. There are reasons to think it could be sustained – mostly based on the argument that people have invested a lot of time and effort into building their profiles, so they won’t leave. There are reasons to think it might not be – the current crop of 18-24 year olds may not need this form of social interaction when they go to college, or grow old and get married, and the next crop who are currently say 12-18 are currently using other social networking sites targeted at their age group (e.g. Stardoll and Sulake) who are presumably planning to hold on to them.
So these sites could generate a lot of revenue for a long time but they might generate a lot for a short time, or a little amount for a long time, or worst of all not very much for not very long.
To my mind it is hard to put a big value on that. Far too much uncertainty.
Valuation is an art though, not a science, and people have different ideas. NewsCorp paid handsomely for MySpace, and good luck to them. But you can’t bet on people paying more for your companies than you think they are worth, it happens, but you can’t make that your investment thesis.