Why is Facebook worth more than Yahoo?


Mike Arrington at TechCrunch published a ‘valuation metrics’ for social networks yesterday. Read the whole article here.

What struck me is that somehow Facebook seems to be getting a significantly higher valuation than companies with comparable business models, for example Yahoo. How can that be right?

Let’s take a step back and think this through. The valuation of a company corresponds to its ability to generate revenue, to do so profitably, being able to grow fast and have a high probability that the revenue is not going to dry up soon. All this depends on a company’s business model.

As far as I am aware, there are only a few ways in which you can generate revenue on the Internet. Each of these revenue opportunities converts usage into money. Different business models are doing so at different rates:

Business Model

…version with notes:

Business Model

Using this (admittedly very rough) estimate, we see that Search is a superior business model in terms of converting traffic into revenue.

Taking a cut of a real world transaction (eBay) also converts traffic well into cash.

Premium subscription and advertising work equally well, both at some 1/3 of the efficiency as Search.

Back to the original question: how is Facebook running a different business to Yahoo and why should Facebook be able to command a premium valuation above and beyond of Yahoo’s? They are both mainly display advertising-based businesses.

At best, Facebook can command a valuation that is in line with what companies like Yahoo can command. I have read many reviews where people criticised Facebook’s advertising programme, but let’s leave that aside for the moment.

Yahoo’s market cap today is some $30bn. If we (roughly) attribute half of that to its search business and overseas activities, then the market cap based on US display advertising would be roughly $15bn. If Facebook can generate some ¼ of Yahoo’s traffic, and if it has some 50% efficiency of converting traffic into revenue, then it should have some 1/8 of Yahoo’s value. (Maybe slightly higher, if you take into account that Facebook is growing rapidly. Maybe slightly lower, if you take into account that Facebook is not profitable.) Let’s say that is $2bn.

Unless Facebook (or any of the other social networks for that matter) can come up with a better way than display advertising to monetize its traffic, then the way in which it should be valued shouldn’t really be different from the way in which Yahoo is valued.

What is remarkable about Facebook is not its amazing ability to convert its traffic into revenue (it is not a Google). What is amazing is how quickly it managed to grow its traffic. It grew from nothing to 35 million users in four years. Now that is amazing and that is the real strength of social networking. You can grow a great business in a very short period of time. But the monetization is still dependent on the display advertising business model. I guess you can’t have it all.

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Is Facebook the Database of Un-intentions?

Facebook logoJohn Battelle once called Google the ‘Database of Intentions’. What he meant with that was that Google tracks the search terms that people type into its search engine. It catches what they are looking for on the web. Their intentions in other words, hence the ‘Database of Intentions’. It is precisely for this reason that Google works well for advertisers. Searchers have the intent of searching for something. They express their search by keyword and advertisers can bid for these keywords. Thus, advertisers get highly specific traffic directed to their websites at a fair price.

Let’s have a look at Facebook by comparison. As reported by TechCrunch, FlowingData ran an interesting article a few days ago, which showed the sort of applications that are available to Facebook users. Applications are provided by 3rd party developers and Facebook allows them to operate these applications on their platform. In a sense, the type of these applications gives a very interesting insight into the intent of Facebook users. Most interestingly, the vast majority of applications are classified as ‘just for fun’, followed by gaming. Those familiar with Facebook will understand what ‘just for fun’ means. These are all the vampire kisses, hugs, pokes and so forth. I can assure than when you get ‘bitten by a vampire’, there is no serious intent involved.

Today, I read an article by Bob Gilbreath. Bob is a marketing executive who reported on his experience of using Facebook as an advertising platform. Bob’s conclusion is damning. His results for both CPM (cost per impression) and CPC (cost per click) are below industry average, both for targeted’ groups within Facebook and for Facebook as a whole. You can read the whole and well written analysis on his blog. To sum it up: advertising on Facebook in his experience was worse than on any other normal website. Facebook is less effective than the industry average. This impression seems to be mirrored by others whom he refers to, including Chris Anderson, Fred Wilson and Nick Denton.

Wow. Worse than average? How is that possible? Isn’t the theory that social networks are supposed to be highly specific and effective in terms of the kind of traffic that they can send to advertisers?

I still believe that to be true. So maybe this was a Facebook specific problem? Thinking about this, it suddenly hit me. Facebook is the place where people go without any specific intent in mind. This is shown clearly by the kind of ‘just for fun’ applications on facebbok. Facebook users simply go to fool around, ‘just for fun’. Thinking back to Google’s, as John Battelle expressed it, ‘Database of Intentions’, maybe Facebook is the opposite of Google. Maybe, Facebook is the Database of Un-intentions.

If this rationale holds water, then this must make Facebook’s traffic the opposite kind of traffic to Google’s traffic. Given that Google’s traffic is the most valuable of the web, this would make Facebook’s traffic the least valauable. This could explain why advertisers seem to get such a low return on their money at Facebook.
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The Difference 90 Degrees Can Make

MicrophoneImagine this. You are interviewing somebody on stage. You ask your interviewee questions. He answers them. So far so good. Problem is: he doesn’t look at you. Not at all. He looks at the audience all the time. You find it very hard to make eye contact and to establish a good conversation.

Mistake 1: Your guest sits looking at the audience, you sit at a 90 degrees angle. Never do this. There is a reason why talk masters always sit facing the audience and the guest sit in profile, not the other way round. Looking at the audience disrupts the guest’s concentration on the host. The guest will start looking at the audience, not at the host. This effectively prevents any real conversation taking place. It ruins the interview.

So, you try to get this guy’s attention. You try to get him to look at you, so you start being part of the conversation. You start making friendly remarks. You start interruption him somewhat. It doesn’t help, he still doesn’t look at you. You start being really frustrated.

Mistake 2: Never become frustrated. Particularly not here. To the audience the guy on stage is a super star. He is Mark Zuckerberg, founder of Facebook. They don’t care how you feel. They just want to hear a cool interview.

And then, after a little while, the audience starts to rip you apart both on stage and online.

My conclusion: 90 degrees can make a huge difference.

To see what happened, have a look here (click to open video on external website):



And the final evaluation of the audience here:


(Mental note to self: Must book another interview training session before we launch)

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