Facebook buys Whatsapp for $19 billion: Value and Pricing Perspectives

This week, I was at the Tuck School of Business at Dartmouth, talking about the difference between price and value. I built the presentation around two points that I have made in my posts before. The first is that there are two different processes at work in markets. There is the pricing process, where the price of an asset (stock, bond or real estate) is set by demand and supply, with all the factors (rational, irrational or just behavioral) that go with this process. The other is the value process where we attempt to attach a value to an asset based upon its fundamentals: cash flows, growth and risk. For shorthand, I will call those who play the pricing game “traders” and those who play the value game “investors”, with no moral judgments attached to either.

The second is that while there is absolutely nothing wrong or shameful about being either an investor  (No, you are not a stodgy, boring, stuck-in-the-mud old fogey!!) or a trader (No, you are not a shallow, short term speculator!!), it can be dangerous to think that you can control or even explain how the other side works. When you are wearing your investor cape, you can be mystified by what traders do and react to, and if you are in your trader mode, you are just as likely to be bamboozled by the thought processes of investors. So, at the risk of ending up with a split personality, let me try looking at Facebook’s acquisition of Whatsapp for $19 billion, with $15 billion coming from Facebook stock and $4 billion from cash, using both perspectives.

The Investor/Value View

I will start wearing my value cap, mostly because I feel more comfortable in it and partly because I understand it better. Looking for fundamentals to justify the price paid but I realized very quickly that this would not only be futile but frustrating and here is why. To justify a $19 billion value for a company in equity markets today, you would need that company to generate about $1.5 billion in after-tax income in steady state. 
Value of equity = $19 billion
Implied required return on equity, given how stocks were priced on 1/1/14 = 8.00% (a 5% equity risk premium on top of a 3% risk free rate)
Steady state earnings necessary to justify value = $ 19 billion *.08 = $1.52 billion
Steady state pre-tax earnings needed to justify value, using an effective tax rate of 30%= $1.52 billion/(1-.30) = $2.17 billion
That would translate into pre-tax income of about $2.2 billion and it is a lowball estimate of break even earnings, since the break even number will increase, the longer you have to wait for steady state and the more risk there is in the business model. Using a 10% required return (reflecting the higher risk) and building in a waiting period of 5 years before the income gets delivered increases the break-even income to $4.371 billion. You can try the spreadsheet with your inputs, if you so desire, to see what your break-even earnings estimate will be.

There are three pathways to delivering these break-even earnings:

  1. If the company continues its current business model of allowing people to try the app for free in the first year and charge them a dollar a year after that (99 cents) and has zero operating costs (completely unrealistic, I know), you would need about 2.5 billion people using the app on a continuing basis.  
  2. It is possible that the app is so good that you could charge more per year and not lose customer. At their existing user base of 450 million, that would translate into about $5/year  per user, if you have no costs, and more, if you have costs (which you clearly will).
  3. The value may be in the form of advertising revenues from Whatsapp’s users but that will be tricky. On the home page for the app, here is what the app’s developers say about advertising:
While they may not be legally bound by this statement, it will be awkward to walk it back and start sending text ads. However, there is a back door that Facebook may be able to user, if they can draw Whatsapp’s users (who tend to be younger) into the Facebook ecosystem and advertise to them there. Whatever the model, though, you would still have to generate at least $2.2 billion in after-tax income from advertising to Whatsapp users to break even.

As an investor, the fact that a significant portion of Whatsapp's customer is teenagers is terrifying as a business proposition. While it is unfair to generalize based on anecdotal evidence, as the father of four children, two of whom used to be teenagers and two of whom are in the full throes of the disease (with symptoms ranging from extreme self-centeredness to volatile mood swings), it seems to me that the only group that is less dependable (and predictable) than teenagers is a group of teenagers who text a lot. Rather than take my word for it, you can work with the very simplistic spreadsheet that i 

At this stage, if you are an investor, you have two choices. The first and less damaging one is to accept that social media investing is not your game and move on to other parts of the market, where you can find investments that you can justify with fundamentals. The second is to go from frustration (at being unable to explain the price) to righteous anger or indignation about bubbles, irrationality and short term traders to trading on that anger (selling short). I would strongly recommend that you not go down this path, since it will not only be damaging to your physical health (it is a sure fire way to ulcer and heart attacks) but it may be even more so for your financial health. While you may be right about the value in the long term, the pricing process rules in the near term. 

The Trader (Pricing) View

Wearing my trading hat, though, the Facebook acquisition for Whatsapp may not only make complete sense, but it may actually be viewed as a positive. To understand why, I had to change my mindset from thinking about fundamentals (earnings/cashflows, growth and risk) to focusing on what the market is basing its price on. To find that “pricing” variable, I looked at the market prices of social media company, multiple measures of their success/activity and tried to back out the drivers of both price differences and price movements.

These companies have different business models and may even be in different businesses but remember that the pricing game may not be about what you and I (as investors) think makes sense but what traders care about. Though the two (what makes sense and what markets focus on) may sometimes converge, they don’t have to, at least for the moment. My simplistic attempt at making sense of market prices was to look at the correlation between the market's assessment of corporate values and each of the measures for which I had data:

Based on this correlation matrix, here are the conclusions I would draw:

  1. Number of users is the dominant driver: The key variable in explaining differences in value across companies is the number of users. While the value side of you may be telling you that you cannot pay dividends or buy back stock with users (you need cash flows), remember that the pricing game is not about what you or I think makes sense but what traders care about. This is reinforced by market reactions to earnings announcements, with Zillow seeing its stock price climb 12% when it reported earnings on February 14, 2014, primarily on the news that they added more users than expected and Twitter seeing its stock price drop 25% last week, again primarily on news that the user base grew less than expected.
  2. User engagement matters: The value per user increases with user engagement. Put different, social media companies that have users who stay on their sites longer are worth more than companies where users don’t spend as much time. While making comparisons across companies is difficult, since each company often has its own "measure" of engagement, there is evidence that markets care about this statistic. For instance, another reason Twitter was punished after its last report was that investors believed that the "timeline views per average user" and the "revenues per 1000 timeline views" reported the company were lower than they had anticipated.
  3. Predictable revenues are priced higher than more diffuse revenues: Some of the companies on this list derive revenues entirely from advertising, some from a mix of advertising and subscriptions and some from just subscriptions. In fact, some like Zynga make their revenues from retailing (in game purchases). While the sample is too small to draw strong conclusions, the value per user of $577 attached to Netflix's users suggests that the market values predictable subscription revenues more than uncertain advertising or retail revenue.  
  4. Making money is a secondary concern (at least for the moment): Markets (and investors) are not completely off kilter. There is a correlation between how much a company generates in revenues and its value, and even one between how much money it makes (EBITDA, net income) and value. However, they are less related to value than the number of users.

So, what's next?
Following in the footsteps of my favorite baseball general manager, Billy Beane, its time to play some Moneyball, where we let the data drive our actions, rather than our intellects. Here is what I take out of these numbers:

  1.  If you are an investor, stop trying to explain price movements on social media companies, using traditional metrics – revenues, operating margins and risk. You will only drive yourself into a frenzy. More important, don’t assume that your rational analysis will determine where the price is going next and act on it and trade on that assumption. In other words, don’t sell short, expecting market vindication for your valuation skills. It won’t come in the short term, may not come in the long term and you may be bankrupt before you are right.
  2. If you are a trader, play the pricing game and stop deluding yourself into believing that this is about fundamentals. Rather than tell me stories about future earnings at Facebook/Twitter/Linkedin, make your buy/sell recommendation based on the number of users and their intensity, since yhat it what investors are pricing in right now.
  3. If you are a company and you want to play the pricing game, I think that the key is to find that "pricing variable" that matters and try to deliver the best results you can on that variable.
Returning to the Facebook/Whatsapp deal, it seems to me that Facebook is playing the pricing game, and that recognizing that this is a market that rewards you for having a greater number of more involved users, they have gone after a company (Whatsapp) that delivers on both dimensions. Here is a very simplistic way to see how the deal can play out. Facebook is currently being valued at $170 billion, at about $130/user, given their existing user base of 1.25 billion. If the Whatsapp acquisition increases that user base by 160 million (I know that Whatsapp has 450 million users, but since its revenue options are limited as a standalone app, the value proposition here is in incremental Facebook users), and the market continues to price each user at $130, you will generate an increase in market value of $20.8 billion, higher than the price paid. Are there lots of "ifs" in this deal? Sure, but it does simplify the explanation. 
Are there dangers in this deal? Of course! First, it is possible (and perhaps even probable) that the market is over estimating the value of users at social media companies across the board. However, Facebook has buffered the blowback from this problem by paying for the bulk of the deal with its own shares. Thus, if it turns out that a year or two from now that reality brings social media companies back down to earth, Facebook would have overpaid for Whatsapp but the shares it used on the overpayment were also over priced. Second, as social media companies move up the life cycle, the variable(s) that even traders user to price companies will change from number of users/user intensity to revenues, earnings and cash flows. When that happens, there will be a repricing of social media companies, with those that were most successful in turning users into revenues/earnings being priced higher. This, after all, is what happened in an earlier iteration with dot com companies that went from being priced based on website visitors (analogous to number of users) to being priced based on how long those visitors looked at your website (paralleling user intensity) to how much they generated in revenues before settling into earnings. The problem for companies (and investors) is that these transitions happen unpredictably and that markets can shift abruptly from focusing on one variable to another. For Facebook, the path to success with this deal is therefore simple, albeit not easy. Start by trying to attract Whatsapp users to the Facebook ecosystem, and hope and pray that the market's focus stays on the number of users for the near term. Follow up by trying to monetize these users, with advertising revenue being the obvious front end but perhaps other sources as well.

Closing Thoughts

My experience with markets has been that no one has a monopoly on virtue and good sense and that the hubris that leads to absolute conviction is an invitation for a market take-down. To investors who view deals like the Whatsapp acquisition as evidence of irrational exuberance, remember that there are traders who are laughing their way to the bank, with the profits that they have collected from their social media investments. Similarly, for traders who view fundamentals and valuation as games played by eggheads and academics,  recognize that mood and momentum may be the dominant factors driving social media companies right now, but markets are fickle and fundamentals will matter (sooner or later).

Originally posted at http://aswathdamodaran.blogspot.fr/2014/02/faceboo...

Comments (138)

Feb 24, 2014

Great post. Thanks.

Feb 24, 2014

very interesting

Feb 24, 2014

Great post, but where does this place the company's TEV in relation to other S&P 500s that operate in more "traditional" businesses? You know, businesses with hard assets and products with more inelastic demand.

Time will tell, of course on how well this works out for FB. However, to someone who does not cover this industry it seems like more craziness from the world of tech.

Feb 25, 2014

was waiting for this. thanks.

Feb 25, 2014

@Aswath Damodaran thank you for this extensive post.

On another thread I posted a brief comment on the valuation and how it might be explained.

"Is it reasonable to assume that both Snapchat and Whatsapp were valued on the basis of how many minutes of "user attention" are essentially stolen from Facebook (and the revenue lost as a result of this)?"

@chickandtoughness posted the following in response:

"Interesting hypothesis. There's another option that doesn't focus on "minutes of user attention", but perhaps on data sent - i.e. number of messages sent via WhatsApp vs. number of messages from FB Messenger? After all, with each new message or FB wall comment, unless you already have the page open, you're essentially forced to reload a page (+1 pay-per-view ads)."

I would love to hear your thoughts on the above.

Thanks in advance.

Feb 25, 2014

thank you @ Aswath Damodaran for your great and comprehensive post. Btw, i read your book.

Feb 25, 2014

Someone read Aswath Damodaran's write-up...

Feb 25, 2014
foryayo:

Someone read Aswath Damodaran's write-up...

My thoughts exactly... OP might have caught some of the points on his own, but it's still eerily similar to Prof. Damodaran's post. And he was the first and only guy who proposed this reasoning.

Feb 25, 2014

1) Defensive acquisition to counter WeChat.
2) $12bn / $19bn in stock, good strategy as their shares are likely much too overvalued.

Feb 25, 2014

I think he read Damodaran's blog but didn't quite captured the ideas.

Damodaran on:

Value x pricing: http://aswathdamodaran.blogspot.com.br/2014/02/fac...

Why a defensive deal is probably a waste of money (that's my term - Aswath was more generous): http://aswathdamodaran.blogspot.com.br/2014/02/if-...

Whoever likes the good professor should read his series on growth investing and acquisitions to understand a lot of caveats that may be present in this transaction.

A few comments:

- What'sApp is free. This second-year-for-a-dollar nonsense does not apply in most of the world. WhatsApp has contractually promised lifetime access to its app and any future upgrades in dozens of different legal jurisdictions. If FB is naive enough to charge those lifetime users, they should be ready for a lawsuit extravaganza.

- What'sApp is easily replicable. Saturday it went off-air for 3 hours and about 5M people joined Telegram (who? I thought the same thing). Good luck charging those kids.

- Regressions by number of users have been doing OK as long as the sector does OK. If they can't monetize it, sooner or later those companies may be repriced based on fundamentals (that is actually a point made in Aswath's article)

- And as an opinion: Instagram acquisition still sucks. Just because FB is riding the good social media wave (and has a solid business model) doesn't mean that this specific acquisition was a good idea.

FB is awesome and filled with hard-to-replicate advantages. Zuckerberg has the majority of he voting shares and is not as awesome. Things that make sense for his concentrated personal portfolio (like paying big premiums for diversification or to neutralize the competition) make little sense for the common diversified shareholder who can just buy some XOM, MSFT or T-Bonds when in fear of threats to FB.

I'm sorry if I'm a little harsh on the OP, but copying parts of a blog post wasn't a class act.

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Feb 25, 2014

Is it just me or is everybody missing the point of this acquisition ? Forget about the $1 per user revenue/year and user growth. Forget the $42 per user valuation. Facebook madeup that number as they decided to buy the company at that price. If fb would have bough whatsaap for $5bn, would that mean each user is now worth substantially less? This sort of reasoning is similar to thinking that your house is worth a million bucks because a nut-job overpaid for your neighbour's house.

The real value of whatsaap comes from its active user-base and facebook having the optionality to take user data as a feed for targeted advertising. I am not suggesting that facebook will change fundamentally change whatsaap to include ads in the application itself, but rather take the whatsaap user data and use it to refine targeted advertising on platforms which already have ads (ie facebook and soon instagram).

It only takes a cool update to sugar-coat a change the terms and condition in the IT sector (remember the terms and condition changes in 2012 for instagram ?). This is where the real value is.

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Feb 25, 2014
16rl:

The real value of whatsaap comes from its active user-base and facebook having the optionality to take user data as a feed for targeted advertising. This is where the real value is.

And will this alone be enough for facebook to recover the $19B investment? Everything that facebook does right now gives it ~$3B in revenues. How much do you think improvement in targeted advertising will reap?

There's a thought that occurred to me a couple of days ago, which is already stated by Prof. Damodaran but its importance seems to be underestimated by everyone. Facebook paid $16B of the $19B in stock - its own, ridiculously overvalued stock. In Damodaran's words, it's like exchanging a piece of overvalued paper for another piece of overvalued paper. And you can bet your ass that old Zucky's shares are non-dilute, so it's not gonna impact him or the other major investors anyways.

I don't think it's zucky that needs to count on whatsapp to keep churning magic. It's Koum who needs to count on facebook to keep doing its thing and remain overvalued, if he wants to retain his networth. And therein lies the rub.

Edit: The last part was literally an epiphany that I had while thinking over this, and if I'm right, we give way less credit to Zuckerberg than he deserves.

@"Simple As...", @"Going Concern", I know this topic has been already beaten to death, but I'd love to know your thoughts on the above.

Feb 25, 2014

One thing's for sure, zuck doesn't approach these deals with any of the conventional wisdom of investment banking m&a in mind.

Feb 25, 2014

1) Dude, you copy-pasted parts of Damodaran's post without citing him. Not very cool in my books.

2) Can someone please help me understand how Facebook is planning to monetize WhatsApp users? I mean, they are on completely different platforms, so how is FB going to leverage on WhatsApp users to gain more FB users? I am not a technologist, nor a financial analyst.

3) Can someone please explain why this deal is so "over-valued"? Again, I am not a financial expert and understand little about the nitty-gritty of M&A deals, but why isn't the concern more on the amount paid in cash, seeing as most of the deal is basically a stock swap? From my perspective, I would have been up in arms if it had been a majority cash deal, but a stock swap seems (to me) basically an exchange of paper, with no real value exchanged.

Thanks. :)

Chill

Feb 25, 2014
Fenix-LGM:

2) Can someone please help me understand how Facebook is planning to monetize WhatsApp users? I mean, they are on completely different platforms, so how is FB going to leverage on WhatsApp users to gain more FB users? I am not a technologist, nor a financial analyst.

My guess is to add geo-location features and network maps of who is connected to who. That way, facebook can know more accurately where the user goes, who it knows and where the people that they know go. This data can be then fed into the general facebook database as an ad-on module for better advertising targeting.

Ex: This chick goes shopping and sees a nice dress/whatever. She is more likely to text her friend asking about the dress via whatsaap than on facebook. From this text, facebook can know trust levels in the person's network and where she is (abercrombie 5th avenue for ex). Facebook knows now she likes this kind of store and boom, magic ads appear out of nowhere even though she never clicked/searched nor browsed on the abercrombie website.

Is facebook likely to get $45 dollars from each customer via this additional data feed ? Most likely not. But as many users already said, facebook paid whatsaap with their overprices stock, so even if they make half of that, its a very good deal.

Feb 25, 2014

Maybe the NSA told facebook to do it...

Facebook should have fought WhatsApp; it's not like they don't have the cash, and such attempts could have been kept at arms-length to give the illusion of competition to people wary of Facebook.

But what this buyout does it send the message that if you threaten Facebook, they will make you rich. This amount of money will make the best grads wet to work for upstarts, and VCs fall over themselves to provide funding.

The non-social media tech giants are smart; they are diversifying, trying to innovate, and fighting tooth and nail. Facebook is paying its executioners.

Feb 25, 2014

While I think this may be an overvalued buy, I think there may be more gears at work here than we can really see going. We're all talking about metrics and valuations, but what if the acquisition was part of a bigger strategy for a foray into say, mobile devices, tablets and electronics? Then this acquisition, alongside such moves as buying Parazen, Octakey, Diwyshot, Drop.io, Chai Labs, Strobe, Gowalla, Sofa, Acryllic and Parse, both makes sense and seems like a much longer term strategy to expand outside of social media into other areas of business at work here. Why buy a company who has built a fantastic messenger service if they don't plan to integrate it into a product they are developing? This isn't about monetizing WhatsApp, I honestly believe it's about using it as part of a larger R&D build for a product they are working on.

Feb 25, 2014

If this is their primary intention, then the acquisition seems even crazier. With the other acquisitions, Facebook acquired some particular niche or innovation, which most definitely fit into the theme of broadening scope. However, if that's where they expect to find the value from WhatsApp acquisition, then they would not have paid even a 10th of what they did. After all, they already had a messaging service.

At the end of the day, 99% of the cost was the user base, not the technology. They have to extract value from that user base if they want this to make this worth their cash (regardless of how overpriced the shares are).

Feb 25, 2014
Feb 25, 2014

The things i wrote are purely speculative, they are not curemtely being inforced by fb right now but there is a possibility they could do that as it makes sense finacially speaking

Feb 25, 2014

To put the purchase price into perspective, that's about 16 Instagrams

Or 10% of FB's market cap

Feb 25, 2014

19B total.. 16B in stock/$$, 3B in RSU's

Feb 25, 2014

6 times what they offered snapchat! Jesus!

Feb 25, 2014

Looks like it's $19B total value (what OP said plus $3B in stock) - http://www.businessinsider.com/facebook-is-buying-...

This is insane. I can't even fathom an app being worth that much.

Feb 25, 2014
TopChedder:

Looks like it's $19B total value (what OP said plus $3B in stock) - http://www.businessinsider.com/facebook-is-buying-...

This is insane. I can't even fathom an app being worth that much.

It's not the app they are buying, it's the users.

Feb 25, 2014

Wow. Can someone justifiably say we are not nearing the peak of this tech bubble. It's like 1999 again.

Feb 25, 2014

That is also right around the same price that Twitter valued itself at for it's IPO.

Feb 25, 2014

I feel like i'm missing something here. It's a text messaging app?

Feb 25, 2014

Yeah, it's basically a larger LINE (which I use sometimes in the US). Really big overseas. Over 70% of whatsApp overall users are active any given day, which is cool

But how in the hell is it worth 19B?

Feb 25, 2014

I'm betting on Blackberry's recovery, I wonder how will this impacts BBM. But either way, no one is always right, I feel Zuckerberg committed a mistake given this crazy price tag, WhatsAPP at $16 BILLION!!??? That's 3x more of current Blackberry's market value, holy shit.

Feb 25, 2014
Mike CL:

I'm betting on Blackberry's recovery, I wonder how will this impacts BBM. But either way, no one is always right, I feel Zuckerberg committed a mistake given this crazy price tag, WhatsAPP at $16 BILLION!!??? That's 3x more of current Blackberry's market value, holy shit.

Whatsapp Users: 450 million
BBM Users: 80 million

IF you think BBM is worth as much as Whatsapp per user ($42) then BBM value is around 3.36 billion.

Don't listen to anyone, everybody is scared.

Feb 25, 2014

Ridiculous, but the level of dilution really depends on how much of this $16b is cash and how much is stock. Facebook is trading at 20x price/SALES, so trading your own overvalued hyped up POS equity for someone else's is probably fair enough. If you can't beat 'em, buy 'em. I get the strategy. But when an amateur CEO actually cashes out a few lucky college dropout computer nerds with owners equity from public shareholders in return for something that will never generate a single dollar of income, that's pretty outrageous. First Insta for $1b, then snapchat for $3b, now this. Zuck has really outdone himself this time.

Feb 25, 2014

Dammit should have taken that job at WhatsApp when they offered it to me in its infancy.

broadstbully:

But how in the hell is it worth 19B?

Someone's grossly exaggerating the value of a user (granted, they do have a lot, and it's cross-platform). I can see why Facebook wants it, though.

Currently: future psychiatrist (med school =P)
Previously: investor relations (top consulting firm), M&A consulting (Big 4), M&A banking (MM)

Feb 25, 2014
chicandtoughness:

Dammit should have taken that job at WhatsApp when they offered it to me in its infancy.

Yeah, that would have been pretty awesome. : / Hopefully you like your current job?

Feb 25, 2014

Wow. That really sucks. I bet a few secretaties just became millionaires.

What kind of position were they offering if you don't mind me asking?

Competition is a sin.

-John D. Rockefeller

Feb 25, 2014

Soooo I would like to dig into the valuation part of this and would like to ask more seasoned monkeys to contribute.

Is it reasonable to assume that both Snapchat and Whatsapp were valued on the basis of how many minutes of "user attention" are essentially stolen from Facebook (and the revenue lost as a result of this)?

Please discuss. Really interested in hearing your thoughts on this. I understand that EV/Users or EV/Monthly Active Users and other multiples may also be applied in order to arrive at a valuation.

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Feb 25, 2014
nauprillion:

Is it reasonable to assume that both Snapchat and Whatsapp were valued on the basis of how many minutes of "user attention" are essentially stolen from Facebook (and the revenue lost as a result of this)?

Please discuss. Really interested in hearing your thoughts on this. I understand that EV/Users or EV/Monthly Active Users and other multiples may also be applied in order to arrive at a valuation.

Interesting hypothesis. There's another option that doesn't focus on "minutes of user attention", but perhaps on data sent - i.e. number of messages sent via WhatsApp vs. number of messages from FB Messenger? After all, with each new message or FB wall comment, unless you already have the page open, you're essentially forced to reload a page (+1 pay-per-view ads).

Currently: future psychiatrist (med school =P)
Previously: investor relations (top consulting firm), M&A consulting (Big 4), M&A banking (MM)

Feb 25, 2014

That is absolutely insane... Since the only revenue is the 1$ users have to pay annually after their first year, the max revenue they can have is $450m (assuming every MAU pays) - or more than 40x revenue, probably more like 60x revenue.

And how the fuck is WhatsApp worth 21x what Viber is worth?

And how many of these people aren't already on Facebook and can use Facebook Messenger?

The 90s are back, except this time you just need an app instead of a .com in your name...

Feb 25, 2014

Investor call is going on right now for those interested:
http://investor.fb.com/eventdetail.cfm?EventID=141327

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Feb 25, 2014

here is the value: $349MM per employee.

http://blogs.wsj.com/moneybeat/2014/02/19/by-the-n...

Feb 25, 2014
Feb 25, 2014

I'm kinda mad at myself for laughing at this

Feb 25, 2014

FB is going to be a pseudo-telco without the capex. ATT + VZ should be concerned

Feb 25, 2014

My synthetic FB short likes this retarded acquisition

Feb 25, 2014
gstackle32:

My synthetic FB short likes this retarded acquisition

FB trades at 22X P/S and GOOG trades at 6.75X P/S. Both business models are basically ways to funnel people to contextual advertisement. I'd argue that GOOG has superior management and talent (No, Sheryl Sandberg, it is not okay to cry at work).

If you apply a 6.75X multiple to FB's revenue, that gives you a fair price of $21.9375, or about 1/3 of the current market price.

Not convinced on it being a telco competitor. You could say the same thing about Skype or whatever other "cool" app is the trend of the day. This is a market with zero brand loyalty at all, extreme competition, and no switching costs.

Feb 25, 2014

The $1 billion dollars paid for instagram seems ridiculously cheap compared to this. Everyone I know has an instagram, and I hadn't even heard of whatsapp before tonight.

Feb 25, 2014
Window View:

The $1 billion dollars paid for instagram seems ridiculously cheap compared to this. Everyone I know has an instagram, and I hadn't even heard of whatsapp before tonight.

Whatsapp is huge in Asia. Everyone I knew had it and it made for easy group shared messaging.

Though I felt that part of the appeal, at least for me, was that it wasn't part of Facebook... And as someone mentioned, there's probably already a huge overlap of existing FB users. Though the question is whether many of the users of Whatsapp are inactive FB account holders. I guess the bet is since there are many loyal Whatsapp users, and in some regions, it is the default messenger across your network, that there's some staying power. This would force Whatsapp users to log in to their FB accounts, and effectively be re-integrated/re-introduced into the big FB machine.

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Feb 25, 2014

christ

happy to give advice; no asking for referrals please

Feb 25, 2014

According to the TechCrunch article WhatsApp will receive $19 billion:

$12 billion FB stock
$4 billion cash
$3 billion in RSUs.

Let's start with the positives. First, a lot of us think FB is overvalued, so FB is using that to their advantage. Now one thing I don't really understand is the $3 billion in RSUs (employee retention).

WhatsApp currently has around 50 employees and 32 of the 50 are engineers.
$19 billion divided by 50 is $380,000,000 per employee.

Now let's subtract out $3 billion in RSUs (employee retention).
$16 billion divided by 50 is $320,000,000 per employee.

Honestly, I personally don't see top talent staying around at Facebook/WhatsApp for the extra money. I know historically this has been done to retain top employees, yet top employees will already be making way more than we have historically seen.

I'm sure the $3 billion in RSUs is probably more skewed to people who have less an equity stake in the company. (The ones who will only make $40 million vs. a few hundred million).

Robert Clayton Dean: What is happening?
Brill: I blew up the building.
Robert Clayton Dean: Why?
Brill: Because you made a phone call.

Feb 25, 2014

So it costs 4 bil more to buy Whatsapp than to bail out Ukraine.

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Feb 25, 2014

Looks like struggling countries should just start creating apps and marketing them to Zuckerberg

Feb 25, 2014

I yelped out aloud when I first saw this news. How in god's name is $19 billion justified for a single purpose app? As far as I know it has no other revenue apart from the 99 cents usage fee after one year of use. The numbers are just mind boggling. Only way to make money off it is the only way to make money that facebook knows - advertising. Which will completely ruin whatsapp considering that they've always been strictly against advertising.

Someone please explain to us lowly humans how this deal makes any commercial sense whatsoever. Anyone? @"BlackHat", @"KarateBoy"? Can someone shout out to other experienced users who can make some sense of this mess?

Feb 25, 2014

What the heck is going on here? All these apps and weird tech things popping up all over the place, somehow costing billions even though I've never even heard of them once. What's WhatsApp?

Feb 25, 2014
Going Concern:

What the heck is going on here? All these apps and weird tech things popping up all over the place, somehow costing billions even though I've never even heard of them once. What's WhatsApp?

It's huge in Asia - everybody and their mother has it. Got 450 million users as per the facebook release - that's more than twitter. It's a butter smooth messaging app with all the features and functions you'd expect from a messaging app. Basically the same thing as Viber, but in my opinion, cleaner and smoother.

Feb 25, 2014

There seems to be quite a bit of confusion over this deal, so maybe it's worth taking a step back to think about what Facebook did here.

It took out a competitor. That's why it was worth $19 billion to Zuckerberg.

It moves Facebook more into mobile than it already is. It adds a lot of new users. It forces some of the overlapping users to move back to using Facebook on a regular basis (which in turn increases advertising revenues that Facebook can expect to receive as active users increase). And while it's currently not seen as Accretive to Facebook's valuation, it probably will be in the long-run given that WhatsApp has a sticky user base with really only one other major option (a competitor in China that does the exact same thing) to which users could switch in the event that Facebook alters WhatsApp's business model, and starts charging more for the service or advertising through the service. Even if WhatsApp only pushes more users through Facebook, the size of WhatsApp's user base is so substantial that the additional advertising revenues could potentially justify the acquisition. And, in all likelihood, Facebook will eventually play around with WhatsApp's business model at some point (though, probably not for a year or so depending on how Facebook's shares perform following this acquisition, and how WhatsApp performs as a division).

That said, I think it's extremely expensive. It's an absurd price. In a world where I had $20 billion to spend, I certainly wouldn't buy WhatsApp, but then again, I don't have $20 billion, so who gives a shit about what I say?

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Feb 25, 2014
brotherbear:

That said, I think it's extremely expensive. It's an absurd price. In a world where I had $20 billion to spend, I certainly wouldn't buy WhatsApp, but then again, I don't have $20 billion, so who gives a shit about what I say?

I don't know if old Zucky has his head stuck in sand or floating in the clouds, what with the spending spree he's been on for a couple of years now. Whether or not he has set out on expanding his user base, he sure has set out on making billionaires out of a bunch of startup hipsters. I suppose it gets lonely out there in the young billionaires club.

Feb 25, 2014
brotherbear:

That said, I think it's extremely expensive. It's an absurd price. In a world where I had $20 billion to spend, I certainly wouldn't buy WhatsApp, but then again, I don't have $20 billion, so who gives a shit about what I say?

Lol, it's easier to throw around money when you have some.

Feb 25, 2014

$16B divided by ~400M users of WhatsApp = $40 per user. Is a userbase really worth $40 per user to Facebook? I'm really interested to see how they make back the extra $39 to break even (you pay $1 a year for the app after the first year).

Feb 25, 2014

Yeah it's approximately ~$42/user. For comparison, Viber was bought last week for $3/user (300MM users total).

From Koun's blog (http://blog.whatsapp.com/index.php/2014/02/facebook/) :

"WhatsApp will remain autonomous and operate independently. You can continue to enjoy the service for a nominal fee. You can continue to use WhatsApp no matter where in the world you are, or what smartphone you're using. And you can still count on absolutely no ads interrupting your communication. There would have been no partnership between our two companies if we had to compromise on the core principles that will always define our company, our vision and our product."

It's about to pop...

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Feb 25, 2014

I thought this acquisition was nuts at first, and for the most part I still do. But on the other hand...

Though if you're zuck and you think this app gets to 1bn users within a year, that's 1bn recurring revenue at the dollar price point, and you could probably throw some price increases in there (why 99c per year? why not 10c per month, going to 15 to 25 to 50? fuck you pay 6 / month for unlimited texting). depending on the price elasticity point you can very easily turn this into an acquisition returning 20-30% on your investment if you wanted.

i doubt FB wants to...I think zuck believes in owning mobile because there's limited real estate, and so any app that is social and mobile, he will pay to own. i don't know if this strategy pans out or not, but I will say that he has proven to be a lot more far thinking than almost anybody out there (leaving out facebook...when he bought instagram everybody thought he was batshit, now all analysts love talking about its ad potential)

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Feb 25, 2014

Next probably snapchat for 10 Billion or something.

Feb 25, 2014

If they bought whatsapp, what's stopping the whatsapp team from developing the snapchat feature? Unless there is very little overlap with whatsapp and snapchat users and FB just wants to acquire the users like it seems they've done here.

I can understand why FB would want snapchat, purely to focus on the teen and young adult target audience. But if FB's model is all about collecting data and Snapchat is about making everything short term and pics/data gets wiped out, I can imagine more than a few users that will question whether their snaps are really temporary.

Feb 25, 2014

At least he is staying true to his values.. when they IPO'd he said something along the lines of "we don't build services to make money; we make money to build better services" .. guess they'll put whatsapp under the umbrella and roll with it

Feb 25, 2014

my guess is they'll start integrating whatsapp w/ instagram and FB or add some sort of optional subscription service. The price is pretty f***ing high though

Feb 25, 2014

Rakuten - Viber
Naver - Line
Tencent - WeChat
Facebook - WhatsApp

2 left:
Snapchat
Kakaotalk

Feb 25, 2014

450m users... Lets say they grow to 1bn users as Zuckerberg suggested. Thats still $19 per user for an app which charges $1 a year with no other means of income. I get that FB wants to keep a hold on its decaying business but I can't see any scenario where they're NOT overpaying on a huge scale. It's roughly the same $ per user as MSFT paid for Hotmail back in the 90s I believe.

I saw a great screenshot yesterday of a tweet from one of the WA founders in 2009 - he'd been rejected for a job at Facebook. Guy is laughing all the way to the bank now.

Feb 25, 2014

ok, so do this math....

1 billion users at $3/year...you think the price elasticity is high enough that people would leave if it went from $1/yr to $3/yr? I don't think a high % leave once they are using it for a few years and everyone is on. So we're talking about potentially $3bn of revenue in a bullish case and ~$2.5bn of profit. In other words, this acquisition alone could make as much as ALL of Facebook combined - which just goes to show you how RIDICULOUSLY overvalued FB is right now....$178BN Market Cap for a company that makes what, $3bn max this year?

Anyway, I think FBs valuation is MUCH crazier than Whatsapp...just because it's a 1 trick pony doesnt make it less valuable. They have customers already accustomed to paying $1/yr which makes it immediately viable / profitable at these large #s...

Feb 25, 2014

It is expensive there is no denying that but WhatsApp has greater market penetration into areas that Facebook doesn't, so there is definitely some value to be had there. If you think when you first got Facebook, for those that have it, you probably got it because your friends have it so it has that roll on effect and WhatsApp can facilitate that.

WhatsApp is essentially going to be the vector for FB to spread further then it already has.

First thoughts though, how many people use both already? There must be some serious overlap.

Edit: WhatsApp's user base has apparently been increasing by 1Mil users per day, even if 80% of those have FB already, that 20% that don't could be of considerable benefit to FB.

Feb 25, 2014

one question - how?

Feb 25, 2014

Whatsapp - 450M Users (Freemium application with $0.99 fee after 1 year)
Line - 350M Users (Free application), $120M in recent 4Q revenue
Tencent - 272M Active Users
Kakaotalk - 130M Users (Free application)

Line - Preparing for an IPO in Japan/US for $8B
Kakaotalk - Ongoing rumor about Vietelle(Vietnam's Largest telco) acquiring it for $5B.
Whatsapp - $16B ???

Feb 25, 2014

To play Devil's advocate:

If I understand it correctly, WhatsApp could represent a pretty disruptive technology. As Wifi coverage improves, it could get to a point where you don't need a cell plan - you could just use an app like WhatsApp to send messages over wifi. You would need another app for phone calls and video calls though, but it seems kids today are all about text messages.

Today they have a lot of users and not much revenue. Facebook was in a similar spot and has done a pretty good job of monetizing its platform. It's possible they could do the same for WhatsApp.

Finally, WhatsApp may not be worth 19 billion, but Facebook may not be worth 170 billion. So they traded one overvalued asset for another overvalued asset - not the same as spending 19 billion cash.

Not saying this is necessarily a good deal - I don't know enough about the industry to call it in either way. But Facebook is doing way better revenue-wise than I would have predicted so I'm inclined to give them some benefit of the doubt.

Feb 25, 2014

I suspect a lot of you are forgetting that this app, which has ~450 million users with ~350 active million users that gains ~1 million active users a day was bought by Facebook valued far above $19 billion and only has ~1.1 billion users. This tiny app had half the total users and the Asian market, it was simply a threat to Facebook just like Instagram, Snapchat, etc.

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Feb 25, 2014

I think Facebook, Google, and Apple should all merge to create one giant company.

Feb 25, 2014

I don't see how WhatsApp is a threat to Facebook? One is a social network, the other isn't? They're used for completely different purposes..

No one would say: 'I'm deleting my Facebook, why do I need it? I can chat to all my friends on WhatsApp and see their publicly shared photos and stalk them a bit..'

However someone could easily say: 'I don't need WhatsApp, I can just use Facebook Messenger..'

I feel that the majority of people have a hell of a lot more friends on Facebook then they do phone numbers in their address book for WhatsApp which would make you think that Facebook is better for chatting as you have a larger contact base, however the real benefit from FB's point of view is the market penetration WhatsApp can give to Facebook in areas where WhatsApp is more prominent than Facebook!

Feb 25, 2014

It's absurdly expensive, but that's the point. You HAVE to overpay for these tech companies because they will drive towards an IPO and then you will overpay even more. It is ridiculous but that is the current atmosphere. Come in with a massive offer that they can't say no to and ensure that you won't have a cross platform competitor in the near future. Besides, Facebook needs to use it's ammunition while it has it. It has a lot of cachet in the form of stock valuation and some cash from the IPO but that will eventually draw down.

I think it is probably a decent strategic move for Facebook to buy a ton of users in the Asian market and an app with dvelopers who have proven experience creating an experience that people enjoy on all different platforms. That last piece could be worth it's weight in gold if they aren't one hit wonders.

Feb 25, 2014

This is an egregious example of a CEO squandering capital. Does Zucherburger know what ROIC is? Capital allocation? This is awful.

My posts will be fraught with grammatical errors since I post from my phone. I will try my best not to post an incoherent babble.

Feb 25, 2014

I think the $19 B acquisition price for whatisapp is actually a bargain and represents a far better value proposition than the $1b for instagram or whatever billion that was offered to snapchat.

Unlike the instagrams and snapchats of the world, Whatisapp is NOT just a social network app. It is a versatile and very easy to use text messaging tool that allows users to send unlimited INTERNATIONAL texts anywhere in the world to anyone with a mobile number, with the user ID being same as the person's cell number. In particular, it is very useful when you want to receive text messages while out of the country without paying expensive international roaming fees. It is basically the skype of textings.

For such a powerful tool whatsapp can easily charge $1 per month per user for its services, which is far less expensive than any cellphone carrier text plans.
With 400m current users that translates to $4.8B revenues per year. So at $19 B facebook is paying a little less than 4 times sales multiple. Furthermore, the 400m user base is set to grow even bigger especially in developing worlds. I can see it doubling its user base shortly as whatisapp further taps into China, India and much of Africa in which case facebook is only paying less than 2 forward sales multiple. That is well below average for the telecommunications space and a bargain price.
So this is a good buy for facebook, especially since most of purchase will be paid out via stocks and options, with only a few b in cash (and even for those facebook can just issue some new shares) . Congrats to Zuckerberg for putting this deal together.

The funny thing is that Jim Basille, the former co-CEO of Blackberry had the epiphany of getting rid its deadweight smartphone and tablets operations and turning Blackberry into a text messaging only company by leveraging off the bbm service. Too bad other board members at BBRY did not share his vision as that company continued to bleed money and dwindle into irrelevance. Under new CEO John Chen Blackberry is finally taking steps to do just that. With a market cap of just under $5 b BBRY now looks like a even bigger bargain in comparison to whatisapp. It all depends on how the restructuring process goes.

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Feb 25, 2014

Fuck.. Typed a whole lot of shit out on my phone and hit someone's username by mistake. Here we go again...

Thanks for the explanation, finally a shred of concrete logic. But I'm in Asia and I can guarantee you, if whatsapp raises its prices to a buck a month, half of those 450m users will be out before you can say "what the..." Like someone else said, there are just too many options available - there's viber, wechat (owned by tencent) and a host of other less popular, but still FREE apps accomplishing the same purpose.

But maybe if they use a strategy like charging only those customers who want to use whatsapp while on international roaming, they might be able to charge a premium. Based on a back of my mind calculation, even in such a case I don't know how the numbers will work out to make this a good deal.

Wish someone had access to a banker who modeled out this deal. It'd be interesting to see the assumptions they've taken. I bet they'll make the assumptions I sometimes take look like doomsday scenario.

Feb 25, 2014

PS12 a year for WhatsApp? There are plenty of alternatives that are free but not quite as slick, I know plenty of people would switch immediately. I have no problems paying 69p on the app store when I got the app in the first place, one off payment, fine, but I would never sign up to a monthly subscription to WhatsApp when the alternatives are free?

A certain amount of people would definitely pay that but I think you'd see their user-base shrink massively, their younger audience would find alternatives in my opinion!

Agree with your other points though, particularly the point about the penetration into the developing world.

Feb 25, 2014

so far to summarize this thread

1) 12B is in stock, and so you're trading expensive paper for expensive paper...
2) fb is building a portfolio - a portfolio strategy is common for industries with elastic consumer demands
3) if you combine some growth and some pricing increases the deal looks at lot better.
4) whatsapp will probably not be run on ads
5) the numbers don't make much sense for retaining talent
6) it's a disruptive asset

hats off to brandon above for connecting the dots...

Feb 25, 2014

It is funny to see many arguments that FB acquires WA because of WA's user base, and a significant number of users are from Asia.

1) There are just so many substitute apps out there that work as WA. It is not 2009-2010 when you might have a hard time finding a cross platform instant messenger app. Who knows that if they start monetizing by placing ads, people will stick with WA.

2) If they start charging users annual fee, Asians won't pay a dime, let alone $.99 annual fee or $1 a month. There are just so many free apps out there, some are even better since they are in their native language!

Feb 25, 2014
kamikade:

2) If they start charging users annual fee, Asians won't pay a dime, let alone $.99 annual fee or $1 a month. There are just so many free apps out there, some are even better since they are in their native language!

Doesn't WA have an annual subscription fee now? It seems that their Asian users are paying unless they are switch to other apps after the first year.

Feb 25, 2014

Aswath Damodaran explains the Facebook/Whatsapp deal:

Beautiful, beautiful analysis. I loved it and it will probably pacify everybody's doubts and misgivings. Now it's just time to wait and watch for the market to shift from pricing on basis of number of users to revenue and cash flow. I expecct that's what it will be lights out for a lot of folks.

Here's the link to the post.

Feb 25, 2014

Korean messaging service going for IPO.

http://techcrunch.com/2014/02/21/korean-messaging-...

Feb 25, 2014

I asked this to the vice chair of JPM ibd yesterday when she came on campus to do a panel.

She says valuations like these (Snapchat's included) are basically like the millionaire wanting to buy the nicest house on the block, which is owned by an old man who keeps refusing to sell. 4 mil? No. 5 mil? No. 7 mil? No. 10 mil? Okay deal.

Feb 25, 2014

Potential O2O channel for the future with the massive user base.

Feb 25, 2014

I'm based in HK but travel to China for work. I have many PRC buddies.

In China, WeChat is king. Some PRC individuals will have whatsapp, but WeChat is preferred due to its facebook-like features (and ability to search for random girls nearby).

Feb 25, 2014

Here is the reason why Facebook bought WhatsApp for so much money: http://on.barrons.com/1cBsvuZ

Tencent is a Chinese internet company about the same size as Facebook with similar gross revenue in 2013. It owns WeChat, another online messaging app that dominates in China and has actually has far more users than WhatsApp. WeChat has been aggressively pursuing marketshare in emerging markets. Facebook isn't going to sit idly by and let that happen--especially given their diminishing appeal to young users (everyone's grandma is now on Facebook, so kids want to go elsewhere to socialize). So, this move is Facebook's way of staying relevant and competitive as younger users internet habits change. It looks like they want to market WhatsApp in emerging markets and compete with WeChat.

$19 billion is excessive, but Facebook is declining and partially blocked in China. Where else are they going to expand?

Feb 25, 2014

Here's some jungle math. The perception has been that teenagers are abandoning FB. To retain them, FB (a social network of declining popularity) buys social media apps of high popularity. 10% of FB users are teenagers. FB buys WhatsApp for $19 billion which equals approximately 10% of FB's Enterprise Value.

Feb 25, 2014

Any diversification/safety argument means shareholders are getting screwed because Mark doesn't want to risk his baby. If I was worried about my FB stock, I'd just mix it with some XOM, VALE, KO or whatever and call it a day. Keeping the risks systematic, ya know?

This $0.99 on the second year is convincing everybody that the 450M users are monetizable. AFAIK, in EMs nobody is paying a dime for WhatsApp - not on the first year nor on the third year. In frontier markets most people don't even get credit cards - they just use whatever free apps are kept free forever.

FB has powerful competitive advantages (too bad the price sucks). What'sApp doesn't.

Feb 25, 2014

definitely overvalued. beside the fact that calculations regarding monetization of whatsapp and the elasticity of its users are complex, you cannot translate its evaluation in FCF growth. if they decided to run on a more aggressive pricing strategy, everyone who is currently using this app (whose number is huge here in europe and i heard in asia) would switch to something else instanly (myself included who as of this reading is only using whatsapp to text).

its only source of income would be to turn to Ads but that doesn't seem to happen anytime soon if ever. how would you build strong and very consistent cash flows over time? the biggest concerns as many have already are sales which simply aren't there if they don't want to use ADS. alternatve thesis: FB wants to use whatsapp as a vector to propagate even more and use its now functioning monetization strategy. problem: a great % of people who is now using facebook is already using whatsapp (talking about europe).

but emerging markets are big and untapped! oh really? and tell me how many people in emerging markets have the money to buy a entry level smartphone, let alone a internet subscription? simply there's a barrier formed by lack of consumption to be allocated to these luxury items (yes they are luxury to them). and while it's true that handset makers are boosting their revenues in these countries, it will take a considerable time to build a solid whatsapp community to foster facebook expansion. but let's say everything happens with no hurdles of any kind (which i take the liberty of doubting).

as months or possibly years pass, i think there are 3 substantial risks:
1) facebook declines (already happening in a certain fashion) or gets paired with something new
2) another whatsapp comes out with a thinner margin structure or simply with a more pleasing interface
3) telecom companies find joint solutions to bring low cost texting in emerging markets (unlikely but deadly if happening)

all considered, are those multiples justified? although i have no hard data to support solid claims (you know the business plan isn't exaclty explained), i don't think so!

Feb 25, 2014

I'd ditch FB stocks for now. That Zuck had to resort to spending $19 billion for this paltry little marketshare tells me his company doesn't have much growth prospects in the immediate future.

Feb 25, 2014

inb4 someone tries to justify the 19bn

happy to give advice; no asking for referrals please

Feb 25, 2014

inb4? I'm sorry, I don't know what inb4 means.

Feb 25, 2014

protip: you can't

happy to give advice; no asking for referrals please

Feb 25, 2014

you sure about that?

WSO's COO (Chief Operating Orangutan) | My Linkedin

Feb 25, 2014

Nerd Alert: OP

Feb 25, 2014
FutureWaller:

Nerd Alert: OP

Feb 25, 2014

free markets yo

Feb 25, 2014

Who ever wrote this nonsense didn't even take the time to learn that WhatsApp actually does cost money, on a per user basis the ~17b is a very reasonable number (up to 20b based on future performance) under $50 per user is low in todays tech mergers. Actual cash is 4b, the majority of the purchase was with over inflated company stock. Opens Facebook up to markets where the Facebook isn't in the top 3 social networks. So how about we do a little bit of looking into this deal before we spend time writing or copying and pasting a rather unfunny post.

Follow the shit your fellow monkeys say @shitWSOsays

Life is hard, it's even harder when you're stupid - John Wayne

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Feb 25, 2014

Facebook is using its hyperbolic stock to protect its hyperbolic valuation; for any company to warrant a stable $19 billion dollar valuation, they'd need around $1.5 billion in after-tax annual income. Sure, Facebook was paying for Whatsapp users, but users in a non-profitable company is irrelevant -- it creates a bubble, and bubbles pop. From the looks of it, Facebook is becoming one hell of a bubble.

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