Third issue of an ongoing series about the changes happening in business and technology. Newsletter analyzes large trends in technological change and also some details of competing in the digital age. Comments and proposals welcome! at technology.indigestion@gmail.com

1. A Fresh Look at What’s
Happening in the High-Tech
and Social Media World
by Patricio O’Gorman | @patoguru
# 004 | July 2011

2. Valuation seems to be the word á la
mode for social media companies. As if we were back in the dot com boom, the
heydays of pets.com and webvan.com on one side, and Yahoo and Amazon on the
other - to name but a few of the web “valuation giants” - social media companies fight
to see which one is worth more than the rest. The days of talking about millions of
users seem to have given way to a much more intense conversation about money.
And, as we all know, whenever we discuss money, Wall Street can’t be too far behind.
In the case of social media, however, there is not only Wall Street but also private
investors, since most successful ventures are still private companies and as such, have
not opened their books to IPO world.
This fact I just mentioned actually makes comparisons very difficult, since you
end up talking about Linkedin, who just IPO’d, and Facebook, who’s been about to IPO
during the past 3 years but still hasn’t. It certainly is much easier to discuss growth
metrics and finance on a public company, that has gone “on the record”, than talk
about Twitter’s strategy, when it’s still receiving private financing and there are dozens
of speculative independent valuations found by just surfing the web.
. This issue of Tech inDIGESTion focuses on social media companies and their
comparability as far as valuations – public or private – allow us. I called it the “Social
Media Index” for obvious reasons, and hope the readers validate it as a useful tool for
benchmarking existing or new ventures. In the end, the metrics I provide use “per
user” models and therefore I bring back to the attention of everyone just how
important users/customers are to any company.
I still have in my files a very useful tool from HBS called Lifetime Customer
Value Calculator, which uses basic inputs such as the frequency of purchases, the
average purchase, the retention rate and customer acquisition costs to determine the
lifetime value of a customer. Such metric, even when the average discussion is very
oriented towards plain user statistics or in-the-air valuations, should be taken very
seriously because in the end it is how a company starts having a cash-flow.
Constructing such a simple tool, however, becomes a near-impossible task when no
customer information is available or the business model does not allow for clarity
around for building the individual valuables (such as retention rate, average purchase,
etc.).
Technology InDIGESTion @patoguru #004 | July 2011

3. Amount of
LOW users in M HIGH
HIGH
Company with high
valuation but few users
Valuation in M
Size equals amount of
USD users
LOW
Company with lots of users
but low valuation
.
In this valuation vs users two-by-two, you can see Facebook’s real strength: the basic
numbers. An extremely high adoption rate makes it the most popular social media site in
terms of users, and very solid in terms of private valuations (IPO seems more likely at this
point, but used to be like expecting George Lucas to film the sequel to Return of the Jedi).
It would be interesting to see whether other services obtaining more users follow the
arrow above or if they move in another direction.
Technology InDIGESTion @patoguru #004 | July 2011

4. Average Value per
LOW User (AVPU – usd) HIGH
HIGH ARPU + HIGH ARPU + HIGH on both
LOWAVPU HIGH AVPU categories
HIGH
AVERAGE
on both
Average Revenue per categories
User (ARPU – usd)
Size equals amount of
users
LOW
LOW ARPU + LOW ARPU +
LOW AVPU HIGH AVPU
LOW on both
categories
.
Things look different when you mostly look at only money (valuation and revenue) –
Facebook becomes “one of the bunch”, placed in the average category along with LinkedIn
and Skype. Groupon becomes the “money star”, ranking high on both categories. Twitter
falls way back, showing it has disproportionate amount of users for its capacity to
generate cash, being the lowest on ARPU (no info on 4Square). Skype’s relative high score
or ARPU might be another insight into Microsoft’s purchase decision.
Technology InDIGESTion @patoguru #004 | July 2011

5. Social media does not have its own rules.
After the dot-com bust we all learnt that the only rules that apply are the rules of the
business and that cash is still king, although some might think otherwise. Below is the
Social Media Index – an attempt to describe a mix of valuation (acting as expectation
on performance) and revenue or cash generation (actual performance). It’s a sort of
Market to Book ratio, in order to understand the viability of these companies. As the
variables move so will the index, and more companies will be added as they become
representative for the social media world.
No revenue information
available.
* AVPU = Average Valuation per User
ARPU = Average Revenue per User
A value of one means market valuation is in line with company revenues. Above means Market value
is a multiple of revenues, a below a fraction of revenues.
Technology InDIGESTion @patoguru #004 | July 2011
#001 January 2011

6. To conclude, Social Media is leaving its
infancy, and “sort of” getting used to the general rules of business, which basically say that
you need to generate enough cash to cover your expenses (e-tailers went through a similar
process in 2002 onwards) and have a credible and expandable base of revenue per user
(ARPU). Twitter is an example of a social media company looking for its destiny; it seems to
be very popular, with a large user base but after 5 years no clear business plan to generate
cash without eroding its user base (who unfortunately for them are rebellious and got used to
a free, hierarchy-lacking, no-ads, no-hassle service). However, and due to the way the SMI
(Social Media Index) is calculated, it ranks first. It has a valuation 51x its revenues.
Facebook, second on the ranking with a 45x valuation-to-revenue multiple, has a different
challenge. It is the poster child for social media, with a very successful movie made about it, a
high-profile founder, a loyal user-base and a good ability to generate cash for itself and for
partners (Zynga, creating videogames for Facebook platform). What it should fear the most is
becoming a corporation: the Microsoft (Google?) syndrome: you start having Wall Street
earnings targets, you need to create a large bureaucracy in able to function in that
environment … and you lose that loving feeling about being the irreverent start-up. All of a
sudden you wake up and you are telling analyst why this or that company are not threat,
while thinking you have become the incumbent and are being out-smarted by kids in a garage
stay up all night waiting to put you out of business …
LinkedIn appears in third position and seems to have played its IPO nicely (first IPO’d company
in the ranking), keepings its expectations at 26x its revenues.
This is social media and it´s not a game to be played lightly. Privacy issues, technical mistakes,
badly-adapted features are not easily forgiven or forgotten by users (if not, read anywhere on
MySpace’s fall from 70M users and USD 580M to half the users and sold at USD 35M this
month – would have a SMI below one!). Let this short note be a cautionary tale to companies
at both ends of the spectrum – the Twitter’s without a clear business model and the
Facebook’s with a clear business model but fear of becoming old-school.
Lasting social media success, quite probably, lies somewhere in between. With everything
that’s going on, I think we’ll soon find out!
I look forward to hearing your comments at technology.indigestion@gmail.com and continue
this conversation; or, we can also pick up via twitter @patoguru. Meanwhile, I hope this has
helped you partially digest this wonderful world of technology or, at least, given you some
food for thought.
Technology InDIGESTion @patoguru #004 | July 2011
#001 January 2011

7. All information from the web, detail available upon
request.
Technology InDIGESTion @patoguru #004 | July 2011
#001 January 2011