The Freemium Attraction/Retention Dynamic as applied to Spotify
Today Spotify (the Latest Internet Service du Jour) announced it would restrict it's free user base from May 1st - via PaidContent (love the irony in them reporting this story):
- Free listening hours will be halved from 20 hours per month to 10 hours.
- Free users can play a track up to five times only.
For new free users, both new limits kick in after six months. For existing free users who joined before last November, the new track limit will take effect from this May 1.
Apparently Spotify hasn't given any reason for the changes in its announcement PaidContent thinks there are three possibilities…
- Because it can: Spotify has proved it can convert one million out of its 10 million users to pay. But, with nine million left over, there’s an ample pool to try converting.
- It’s about cost control: This is not the first time Spotify has limited playing hours. To manage bandwidth during its first-year boom, it temporarily disabled new UK sign-ups and recast its unlimited free tier as the 20-hour Open it has today. A further clamp on play time could be another attempt at controlling bandwidth or royalty outgoings, which are about to grow when it launches in new countries.
- It’s a label stipulation: Though Spotify has signed two majors on its U.S. odyssey, they remain keener than their European counterparts on more pay-oriented music services. Spotify was also recently renewing its European label deals.
Can't see number 3 myself, Ad supported music is an industry staple since Marconi invented the radio. No 2 seems to have merit (but you can't cost cut your way to a 100 million dollar business), so they had better hope No 1 works - as PaidContent says:
Spotify has always said its free service remains a critical premium driver, from which it nevertheless makes “millions” in ad sales, and that any U.S. service would launch with a free element, albeit slightly different. Spotify’s New York-based chief content officer Kenneth Parks says today, somewhat defensively: “Our chief priority is to keep the free service, which is what has made Spotify so popular and successful.”
But, this also tells us that they can't make Ad based free music pay on its own (if they could, why limit Free users access?), one factor being that serving music doesn't get cheaper as volumes rise so scale economics are reduced.
This means they need to get paid users - but paid users come from the 10% conversion of it's Free user base, which puts Spotify smack bang into a fairly interesting piece of Game Theory - to wit, the Freemium Attraction-Retention Model (see chart above).
The "Steady State" - Today - is a fairly attractive Free service that takes X% of all music fans in the market vs its competitors ( it has attracted 1m + users pre it's US launch ) and converts c 10% of its Free (ie Ad supported) base to Paid subscribers. We don't know what it's Churn rate is yet.
Now, if you reduce the attractiveness of the Free deal vs competitors (of which there are many), you are likely to to recruit fewer free users (ie X % reduces), which means fewer new paid users can be converted at 10%, which means slower growth - and it is slower still if you factor in a churn rate (here shown at 20%, defecting to new free services). And the defection rate goes up faster if competitors then reply to this with a better Free (or even Paid) offer (which - I will hypothesize - will happen as newer services, still flush with VC money, willl discount to gain market share).
So the risk is a reduced capture of new entrants leading to a reduced conversion to Pay users and an increasing churn of existing users. This in system dynamics terms is called a negative feedback loop, or in the vernacular a "Vicious Circle" that cycles the business in ever decreasing circles down the plughole into the deadpool (see diagram above).
Of course, playing with those assumptions in the above model can also switch the state to a "Virtuous" Increasing Returns circle, but you then have to believe that one or more of the following must exist:
- There is no reduction in recruitment rate X%, or that access to the US with a larger market pool allows "X%" to drop but a larger market is addressesd, so numbers are still maintained or increased
- The conversion to "For Pay" stays the same (or at least stays high enough to fund the Free users) - ideally they fond a way to bias recruitment towards those likely to trade up
- That "Churn" % of For Pay does not go up due to newer deals
- Thart the labels will sign unique access deals to existing players (eg Spotify) and freeze new entrants out
In many ways you want your long term Free users to churn (or at least not incur costs) of course, hence the slow squeezing of the deal to the Free (down)loaders - but you run 2 further game theory risks, ie:
- Those Freetards join the New New service and enthuse about that, increasing its recruiting and driving X% and conversion to Pay % down and possibly driving existing user Churn % up
- The New New service grows and its buzz and scale allows it to negotiate better deals so when it launches a Pay service then its markedly more attractive (there being no real sustainable competitive advantage in Internet Music services)
Of course, if you do believe Spotify has some sort of major competitive advantage over The New New Others (or no New New others will emerge) you may choose to assume that the % do not shift, and given that Spotify was voted the Best Telegraph Startup just this week, one would like to believe they can pull it off - but it will be fascinating to see how the next 12 months turns out.
Spotify premium for a month is less than the cost of a new CD. It saves me around £1000 a year. Why don't we talk about that?
My answer - the model essentially assumes those are the people who have already made the tradoff to pay to rent music, ie - in dynamic terms - they are "out the game" unless they decide another service is more attractive and they then churn. Others will calculate that if they must pay, they will pay to own, not rent. The Game Theory issue for Spotify now is that new users of the "pay to rent" bent may go elsewhere if the initial offer from other players is then seen as better.
Article on The Wall pointing out that Charities do very well in Social Media:
1. Charities bring people together around a common cause
Social media, in its most basic form, is a way of connecting people through a particular technology or platform around a common interest. This corresponds very closely to the aims of many charities – raising awareness & advocacy, bringing people together, and forming a community around a cause.
2. Charities can measure the ROI of social media and donations are just a click away
For most organisations, social media represents a cost which can be difficult to justify if they don’t have the processes in place to measure the return on investment – especially if the organisation has no other e-commerce channels. Charities can directly solicit donations, and sites such as JustGiving.com and campaign-based initiatives like Movember are making it simple and fun for individuals to encourage their friends to get involved, collecting sponsorships or donating. This makes it easier for charities to convert intention into action and making it possible to link social media activity with donations. Other charities are taking their storefronts online by setting up shop on eBay. Barnardos has really embraced this concept. There are many benefits to this approach: the auction format means that donated goods achieve their maximum price, and the overhead is low. Volunteers can also be geographically dispersed, and can work flexible hours.
3. Celebrities love lending their clout (or should that be Klout?) to a good cause
While not all celebrity / charity tie-ups have been successful (remember the celebrity Twitter death in support of World AIDS day?), some charities have had major wins from working with celebrities and social media to get their message out there and boost donations. When Justin Bieber donated his birthday to Charity:Water, traffic to the site increased by 300 per cent, raising nearly $50,000 as a result. Although some may mock celebrity / charity tie-ups, their ability to create discussion and awareness about a charity is undeniable.
4. Kindness is cool and charities can tie up with well-known brands to make a difference
There are two schools of thought when it comes to CSR. The cynics see it as brands simply using charities to improve consumer perceptions, while others see it as a more symbiotic relationship where both parties stand to gain. Pepsi Refresh is perhaps the most well-known current initiative, whereby users can nominate a local project to be funded by the Pepsi Refresh fund.
The concept of “buy one, give one” where for every product bought by a consumer, another is given to people in need (pioneered by companies such as TOMs shoes) is also gaining popularity this year with sites like B1G1.com springing up to encourage businesses to get involved in charitable in-kind giving.
5. Social media is multimedia – charities can tell their story convincingly
Lastly, it would be impossible to explore the reasons why charities are doing so well in social media without talking about the possibilities that social media technology creates. From Facebook and YouTube to SlideShare, from Last.fm to Flickr – as well as more specialised sites like Justgiving.com and Facebook Causes – social media provides a multimedia, interactive way for charities to provide compelling stories, show the work that they do, and encourage supporters to promote causes on their behalf. This has an impact that isn’t afforded by a TV advertisement or a leaflet posted through your door. It lets people get really involved with just a few clicks.
Two points:
Firstly, this ties in to experience of what services are trusted most - many studies show that services as diverse as health, finance and cable operators are far more trusted if they are mutually owned and not-for-profit rather than privately or state held. People feel that something owned and run by the community is more likely to represent their interests.
Secondly, there is an unpleasant flipside - I noticed at TED in 2009 a profusion of blue-blazered dotcom types were suddenly running "Not For Profits" doing things that once upon a time a "For Profit" would run, and that trend has continued. Partly this is to take advantage of the veneer of respectability, partly its because there is less legal restriction and scrutiny than with For Profits - and many of these are merely "socially acceptable" fronts to channel customers to a small coterie of For Profit service providers who own the site (this is my main issue with the current structure of StartupBritain, to give you an example).
Personally I think there is a scandal in the making here, and feel its time to put a few of the reporting requirements that commercial enterprises must use, onto not-for-profits. I recall a fascinating discussiona few years back at the UK "Webby" awards - a startup that looked at charities actual performance (to allow givers to make informed decisions) got a prize, and they said you could not believe the resistance they got from the charities!
But in conclusion - yes, Social Media loves Charities, but many for-profits have noticed - so dig into the details of that Not For Profit that wants your hard earned cash....
With knowledge businesses that have built up a great following and a "brand", the issue is always what value to attribute to the People and what to the Business (Processes, connections, brand etc etc). We now have a real case study to watch as the Engadget team leaves AOL to go elsewhere en masse - NYT:
Like many of its peers covering Silicon Valley, Engadget worked as a kind of permanent start-up, with 16-hour days to compete in the always-on news cycle, but AOL treated it as one more niche site. “We have been working on blogging technology that was developed in 2003, we haven’t made a hire since I started running the site, and I thought we could be more successful elsewhere,” said Joshua Topolsky, who was the editor of Engadget until the middle of last month.
So Mr. Topolsky and as many as eight of the more prominent editorial and technology staff members at Engadget have left or are leaving AOL and are about to build a new gadget site by joining forces with, yes, you guessed right, their old friend Mr. Bankoff, who now runs a federation of sports sites called SB Nation.
While there may still be a brand called Engadget at AOL, the people who made it a highly regarded site in a crowded category will be gone.
The whys are interesting but a sideshow, what will be interesting is to see the rate of value dissipation at Olde Engadget. One has to factor in the corporate peanut butter effect of AOL - but fortuntely we can map that to a recent acquisition - TechCrunch - and watch its position over the next 2 years as a reference line.
Fourth up on Wednesday at the Financial Times Digital Media & Broadcasting conference was "The Future of Music" with a panel discussion featuring:
- Geoff Taylor, CEO, BPI
- Richard Wheeler, Head of Music, Virgin Media
- Rob Salter, Entertainment Director, Tesco
- Paul Smernicki, Director of Digital, Universal Music UK
The after lunch slot, usually a time for a gentle snooze (unless you are presenting) and what better than The Future of Music long playing album, aka "The Song Remains The Same". We go to an indsustry that has been wailing about its woes, donning sackcloth and ashes and predicting Dooom for longert than any other media industry, yet, like the rest, seems to look much the same as it always has. So, what has changed in the last 2 years since I went to a Digital Music type conference last, I hear you ask?
Well nothing really. the same LP was played:
Track 1 - Piracy is killing music
Track 2 - People buying by the song is killing music
Track 3 - People not buying CDs is killing music
Track 4 - People not buying more music is killing music
Track 5 - Shops no longer selling music is klling music
Track 6 - People not behaving like they did in the 70's is killing music (Though my Teen son is buying vinyl albums, as i did in the 70's... )
Track 7 - Piracy is killing music (remix)
And yet, and yet - apart from the Great EMI Rock and Roll Swindle*, the same names, songs, structures, stories are all there from 2009 - hardly a sign of Collapse!
I did see a ray of common sense breaking out (common in the sense that most of the people up there on the panel agreed) - apparently the industry is dimly beginning to perceive that:
- Selling a customer a locked down, overpriced digital product is a poor choice vs a free one that you can put on all your devices and no-one can rescind. It's what we used to buy from them with CDs and Vinyl!
- There is only so long you can make a market in "heritage acts" and "harvesting tours" and in fact the musicians have just gone off and made their own markets elsewhere
A lot of the evidence is that actual consumer spend on all aspects of music is as high as it ever was in the last 30 years (ie after the Golden Years of the 70's and the Computer Game Invention Black Day), its just not pouring down the same old drains as much as it used to, yet the Olde Industry still seems to believe - systemically, rather than individually - the best solution is legislate the new channels of value back into the olde troughs.
Worked for Canute, after all.........
And it was ever thus - to quote Wikipedia:
In the late 19th century and early 20th century, the music industry was dominated by the publishers of sheet music. By the middle of the century records had supplanted sheet music as the largest player in the music business: in the commercial world people began speaking of "the recording industry" as a loose synonym of "the music industry". Since 2000, sales of recorded music have dropped off substantially, hile live music has increased in importance.
The chap from Tesco was a nice touch, as he looked at music as Just Another Hedonic Commodity - and its losing shelf space to booze, games, drrty sex aids and so on as its a tired format with virtually no industry innovation. He felt that when you buy a CD you should get the complete digital rights, and the CD is your backup copy. He noted that last Christmas they sold thousands of the "Fools and Horses" TV series DVD boxed sets, even though the series can be viewed on free TV channels on any one day, so you can see it free anyway.
* That is a clever play on words of the Sex Pistol's record, by the way.
- Steven Brill, Co-founder, Press+
- Claire Enders, CEO and Founder, Enders Analysis
- John Ridding, CEO, Financial Times
- Arthur O. Sulzberger, Chairman and Publisher, The New York Times Company
Leaving aside that the issue is now moot in the UK with today's announcement about BSkyB, this panel to an extent was like a GroundHog Day session, I hear the same thing rehashed every time I go to a "Media meets Digital" type of panel/conference. The Olde Media (TV, Music, etc) wails and tears its hair out about the terrible things being wrought upon it, and yet - year by year - the industry structures look much the same, the people running it are the same, the complaints are the same. If this was an industry in dire straits I'd expect to see more major restructurings and radical changes (and I'm not talking about governments sponsoring News International takeovers).
I believe it was Benjamin Franklin who said some 200 years ago that:
"The definition of insanity is doing the same thing over and over and expecting different results. "
So, I was looking for the "what's different" this time, but saw nothing except a datapoint Claire Enders made that attention paid to news was, per day, on average:
- 35 minutes on a newspaper
- 25 minutes per day on TV
- 15 min on Facebook if devoted, 5 min if not, average low (huge difference in behaviour bewteen addicts and normals on social media I suspect)
In other words they are not totally insane, it should still be possible to make the Olde Media work for some time yet. But not by carrying on doing the things that aren't working.
However, I will tell you the One Big Thing that I got out of this session - its not so much that anything new is emerging, more that something is clarifying, and that is this:
- High quality, unique content (FT, Economist) can charge money for subscriptions today
- You are not going to get curated truthful News for free, it will be Advertorial friendly opinions or subsidised via New Barons with Agendas. News will be what the (Ad filled) Internetz News Content farms wants people to want.
- Right now there is still not a workable business model for free online good quality "general purpose" news (New York Times et al). The market has a real risk of splitting into the above two areas unless it can find a different model for "paid for" truthful reporting than Ad funded, traffic chasing, linkbaiting cr*p. Timing to get a model I don't know yet, but lets say 3-5 years.
However, the Olde News media also needs to make sure it is actually processing good quality news, or else nothing will save it - as Craig Newmark pointed out in 2009, as to why the Old Media "Quality" was losing ground:
Firstly, the media failed its public's interest:
An increasingly media savvy online public sees that recent major problems involved some really good journalism, particularly the current financial crisis, and also that "weapons of mass destruction" thing. Good reporters told us that something was amiss in both situations, and we did see some really good journalism in both cases. However, the really good journalism was buried, not curated into the front pages, and then, infrequently if at all repeated. As news consumers, if big news is not prominently displayed, and then repeated, it's a tree falling in the forest.
So, these major news organizations reported on matters of great importance to the world, but the curation model failed to really warn the public about those issues, in any way that genuinely delivered the message.
Craig saw this as a failure to understand the role of trust and effective curation:
The new model for news curation and selection, I feel, will be a balance of professional editing and collaborative news filtering. In one incarnation, news organizations will look at feeds from highly respected news fans, and that will drive stories that are featured more prominently.
Now, remember that "trust is the new black."
Another issue is hiding unpleasant truth behind "objectivity", often used as a way of obfuscating commercial interests
In presenting two sides of a story, news organizations will allow both sides to present their positions. That sounds fair, but it's common practice to give those opportunities to "front groups," or "astroturfers," people who are paid to deceive the public in specific matters. This has been very well investigated, documented, and reported. It's a major problem in the public forum, for example, in the health care reform debate, badly hurting our country.
His proposed solution from 2009 is still very interesting:
- The successful news organizations of the future will pursue models for news curation/selection which is a hybrid of professional editing and collaboration among talented consumers [Add algorithms to that].
- A major opportunity is to be found by rejecting the involvement of professional disinformation groups. New models for fairness in reporting will balance the current vision. That's probably captured in the statement that "transparency is the new objectivity."
That was 2009, has anything changed with "quality" news in by 2011? If not, it is, as Craig implies, little better in realty than the hodgepodge of PR churnalism, sleb advertorial, mystic mumbo-jumbo and Content-Farmed Opinion that charecterises "free" news today.
....or is it just driven by accidental landings from spammy search results?
The second session today at the Financial Times Digital Media & Broadcasting conference in London had Shawn Colo of Demand Media up. He was pressed subtly by the FT's Richard Waters on the basics of the Demand Media business model, here are my notes:
Demand Media's official line is that they "Publish what the world wants to know and share". They do this by publishing "Data Driven, Crowd Sourced, High Quality content".
Data Driven in that they access proprietary and public data - Search results give a high indication of intent in real time, Social Media signals Interest - not quite as real time
Crowd Sourced in that they have a network of c 15,000 professional freelancers
The business has c 60 Editiors, c 120 Technologists for a total staff of c 600, so they are more a technology company - Colo reckons succesful media companies of the future will have big technology (aka user intention discernment and SEO optimisation) divisions.
Actually, I think Newspapers and TV companies had similar scribe to tech ratios in their formative years.....
When pressed on being "dependent on the Search Ecosystem" I think we started to see the "why we are not a Content farm" argument laid out:
- DM are only called a content farm by jealous journalists, its a new thing so current players tend to rubbish it
- They aim their content at their consumer base - 75-80% of hits are returns the site - thus they are merely giving the People what they want, and X million people cannot be wrong!
- Because this is what the majority of ordinary people want, Google should not block them (just because a few more sophisticated people are complaining)
When pressed on importance of Google searches for sending people on those re-visits, he said that it was "meaningful" but that the current Google algorithm change hasn't hurt them (and its only a small cabal of tech journalists complaining about spammy search anyway). I must say I am wondering about that too, especially as Mahalo was reportedly hurt so its not that it can't be done - is it that they are so big that Google doesn't want to take them on re above argument (or lose the revenue stream?). I can't help but think that its only when users can get Akismet style self-select site blocking that we are really going to see results from saerch spam
As to future revenues, he conceded Ad rates are falling, but that as they get better and better user data they will be able to serve people with better and better relevance, so CPM should keep steady.
I don't buy the idea that those 75% returns are delighted customers, I would bet that many are being sent via Google searches and getting out again asap, but of course the Ads count as being viewed - be interesting to see what the dwell time on the site is. My take is that these guys were very smart/lucky/both to IPO when they did, you can't help thinking that the rope is tightening on their business model.
He felt that mobile was not a big part of his plans, as there was too much proliferation of devices and standards and no real business models. On this thing, I can agree with them.
Interesting article on the economics of the Huffington Post in the NYT - apart from (as you'd expect) having a strong power law relationship between post and popularity - see diagram above - a few nuggets emerge:
Early on Friday morning, I counted the number of comments in two types of Huffington Post articles — those, respectively, in its news (paid) and blog (unpaid) feeds. The count covered articles that were published over a three-day period from Tuesday, Feb. 8 through Thursday, Feb. 10, and which the site had labeled as politics pieces. Over the course of these three days, The Huffington Post (I have abridged the text to pull out The Numbers):
- published 143 unpaid blog posts. Collectively, they received 6,084 comments, or an average of 43 per article.
- published 161 articles in its politics news feed. The articles in its politics news feed received 133,404 comments: more than 800 per article, and roughly 20 times as many as its blog posts
Not all of these reflected original reporting, like that of Sam Stein or Howard Fineman, but they were all articles that The Huffington Post was paying for in one way or another: whether to reporters, or to editors who curate and repackage content (sometimes brushing up against fair use guidelines) generated at other Web sites, or to news wires like The Associated Press.
That means that there were about 50 page views per comment on average.
At this 50:1 ratio, the average blog post, which received 43 comments, got about 2,150 page views.
The top-performing blog post — one by the former Secretary of Labor, Robert Reich — had received 547 comments (tantamount to about 27,000 page views) as of Friday morning.
By contrast, more than 40 percent of the blog entries received 5 comments or fewer.
So far so good, now for the economics:
The Huffington Post had revenues of about $30 million last year, they’ve reported, almost all of which was from display advertising. This revenue was generated on roughly 4.8 billion page views over the course of 2010, according to Quantcast data. That means the average page view was worth a little more than six-tenths of a cent, or that 1,000 page views were worth about $6.25.
Do the multiplication, and you find that the average blog post — which we estimate generated a couple thousand page views — was worth about $13 in advertising revenue (Demand Media pays about $15 an article for comparison, but I can't tell the diference in input costs to produce). The median blog post, with several hundred views, was worth only $3 or $4. Even Mr. Reich’s strongly-performing post was worth only about $170, by our estimates.
So assuming the average blogger churns out say 8 stories a day, 6 days a week (round that up to 50 posts) they can earn (assuming 2 weeks a year vacation) a maximum of about $10,000 per annum gross at $4 per annum. You clearly therefore want to be one of the Median bloggers, who get a few big hit stories - that's a whopping $33,000 per annum.
Of course, the HuffPo is going to take quite a lot of that (all of it in the case of the Free Bloggers).
And yet, and yet, I hear you say - how could AOL value the Huffpo at $315m, ie (at 4.8bn pageviews) 6.6 cents per pageview, or at c $140 per Median Post, so your heroic Median Blogger actually created c $350,000 of value to the sellers (ie the owners) for the total potential payment of $33,000 - a 10:1 ratio (and that's assuming they got all the value paid to them, which was extremely unlikely).
There are 3 main lessons from this:
1. What Nick Carr called the "Digital Sharecropping" nature of user generated content is alive and well in online newspapers. At those sort of numbers you are daft to do anything except write your own blog unless you are one of the top performers or a total newbie.
2. If the Huffington Post (and by extension, the Digital Newspaper industry) had to pay anything like the economic value of the workers' content produced, (or even enough for a decent living) the industry wouldn't exist (and these sort of pay to value ratios make anything Marx was protesting about look positively insipid). This business relies on people working for subeconomic wages.
3. It's worse - the only reason there is that amount of Ad revenue is because of vigorous curation and SEO maximisation to get Google hits. What happens if Google et al start to respond to increasing user clamour for cleaner search results?
The rest of the article is about economic models for how journalists may get paid, but I think that's a pipe dream as long as others are prepared to work for free. The real lesson from social media businesses remains, from MySpace on - be an owner, get other sucke....sorry, valued contributors - to contribute content for whuffie and change, and sell the f*cker to some dumb mon...strategic investor before you run out yourself.
On that note, Broadstuff get about 3/4 million views a month on average, so at Average HuffPo value it's worth about $56,000 per annum in revenue term, and thus by extension (Revenue to Purchase Price) that makes us worth c $600,000 to buy.
Following on from the complete lack of any action on sorting out the banking sector despite talking vewwy tough (while selling out the public behind closed doors), planning on selling off public forests to private owners*, allowing rampant profiteering in the regulated energy and transportation markets, we now have the edifying spectacle of Her Majesty's Government giving the largest global news organisation in the world more time to come up with a reason to pwn the UK media industry, despite the express advice of the regulator in the space (Ofcom) against this - Grauniad:
Jeremy Hunt, the culture secretary, today confirmed he is taking more time to consider "undertakings" from News Corporation to allow its takeover bid for BSkyB to go ahead. Hunt said that on the evidence provided by media regulator Ofcom, he considered the merger "may operate against the public interest in media plurality" and intended to refer it to the Competition Commission. However, he added that before he does this he will consider undertakings by News Corp "which it contends could sufficiently alleviate the concerns I have such that I should accept the undertakings instead of making a reference".
It is understood that News Corp's undertakings relate to editorial guarantees for Sky News. "If this process produces undertakings in lieu which I believe will prevent or otherwise mitigate the merger from having effects adverse to the public interest, and which I propose to accept, I will then publish the undertakings in lieu and (as required under the Act) begin a formal 15 day consultation period during which time all interested parties will be able to express their views," Hunt said.
He added that he could not say how long this process would take. However, if Hunt decides to accept News Corp's undertakings and put the proposal out to a 15-day consultation, it could be a matter of weeks. If he goes ahead and refers the bid to the Competition Commission, it is likely to be about six months.
And when it is done and dusted, and the stated undertakings don't occur? Then what, given that its game over and the regulator has been emasculated, and HMG has put itself in the position of being beholden to an effective media monopoly?
Given that the UK Government and the Large Corporates are seemingly hand in glove anyway, we may as well get rid of the regulators. Why bother with all the hassle of Regulatory Capture, when you can have a Bonfire of the Regulators (after all, the Bonfire of the Quangos is going so well) and save money to boot!
* It costs us each 30p a year to keep our forests publically owned, as opposed to the the £10,000 we each have bailed out the banks by, so its clearly not economically significant. Land-grab ahoy!
Those who forget the past are surely doomed to repeat it - TechCrunch:
The SecondMarket Facebook shares auctions are back on after a holiday break, and the valuation is up big time. The last auction prior to this one closed December 15 at $22.75/share. Today it hit $28.26 per share. With 2. 5 billion or so shares outstanding, that’s a $70.65 billionish valuation. A month and a half ago shares were trading on SecondMarket at a $50 billion valuation.
If anybody recalls as far back as 2000, the gig then was to IPO a tiny amount of the company's shares, the resulting scarcity forcing the price higher and higher as overhyped shares were bought by people with more dollars than sense. And that was at least in an open market on NASDAQ!. When you get to a point that a company with un-audited books can be accepted uncritically as being worth $70 bn then you have to either believe in a New Economic Paradigm, in the Wisdom (Madness?) of Crowds, or that just perhaps a good old fashioned Pump n Dump scheme is on the go - Wikipedia.
Pump and dump schemes tend to take place either on the Internet including e-mail spam campaigns or through telemarketing from "boiler room" brokerage houses (for example, see Boiler Room). Often the stock promoter will claim to have "inside" information about impending news. Newsletters that purport to offer unbiased recommendations then tout the company as a "hot" stock. Messages in chat rooms and email spam urge readers to buy the stock quickly.
Unwitting investors then purchase the stock, creating high demand and raising the price. This seemingly "real" rise in prices can entice more people to believe the hype and to buy shares as well. When the people behind the scheme sell their shares and stop promoting the stock, the price plummets, and other investors are left holding stock that is worth significantly less than what they paid for it.
Fraudsters frequently use this ploy with small, thinly traded companies—known as "penny stocks," generally traded over-the-counter (in the United States, this would mean markets such as the OTC Bulletin Board or the Pink Sheets), rather than markets such as the New York Stock Exchange or NASDAQ—because it is easier to manipulate a stock when there is little or no independent information available about the company.
So, to reiterate - tiny numbers of shares changing hands in shadowy secondary markets do not constitute price discovery, despite the promises of promoters, and using them as a basis for valuation of Facebook is about as logical as discovering witches by seeing if they float like ducks (Cue Monty Python sketch above). I really thought Mr Arrington/TechCrunch recalled all this, but this article makes one wonder......
(Our view of what you have to believe for a $50bn valuation is over here - do you believe it?)
Today some news emerged about Facebook's 2009 financial figures - WSJ:
“According to people familiar with the document, Facebook had net income of $200 million in 2009 on revenue of $777 million. Figures for 2010 weren’t disclosed, but analysts have said the company’s revenue last year could be as much as $2 billion, fueled by advertising growth.”
If it is making up to $2bn today, with reportedly c 550m users (Highest sourceable estimates I have seen), that implies average revenues per user of c $3.60 per annum. Facebook at the end of 2009 had about 275m users, ie about $3 per user per annum. However, these figures will under-estimate actual revenue per user as it is dividing total annual revenues by end of year numbers. Assuming a roughly linear growth allows us to calculate the actual mean running revenue per user was c $4.65 in 2010
Going back to 2008, Facebook ended the year with c 140m users and revenues between $325m (Facebook guidance) and $210m (eMarketer). Splitting the difference gives 2008-9 average revenue per user per annum of about $3.65, in other words Facebook has added a mean $1 per user per annum over 2010.
This allows us to start thinking about "real world" valuations, and comparing it with Goldman Sachs / Facebook's valuation of $50bn.
(1) Revenue ratio-based Valuation
A market cap to revenue ratio of $50bn on $2bn revenues gives a ratio of 25:1. To give an indication, Google is at between 5 and 6:1 today as a mature company, and at its IPO had a ratio of about 13 ($20bn on c $1.5 bn trailing 12 months revenue) and it was growing at a similar rate to Facebook. To believe that Facebook can be a c $50bn company when mature, at the Google ratios, you have to believe it can achieve revenues of about ($50bn/5) = $10bn, ie a 5-fold growth over 2010 revenues.
(2) Margin based Valuation
Assuming that last year's ratios hold true - ie 2009 net income of $200m on $777m revenues, ie c 25%. Translated to 2010 means net income of c $500m on revenues of $2bn*. That gives a price/earning (P/E) ratio of ($50bn/$500m) of c 100:1. Google's P/E ratio today is about 18, and was about 120 at IPO. Assuming Facebook can keep a 25% net income margin, as a mature company, with a Google-ish P/E ratio of c 20 means it needs to generate at least $2.5bn net income, ie revenues of about $10bn per annum - similar to the outcome above.
So it comes to this - to justify its valuation, you have to believe Facebook can achieve c 5-fold growth in about 5 years (after that, NPV is near zero for all practical purposes) at current margins. So where will this growth come from?
- It has a about 550m users, there are about 4bn people online today, of which c 2bn are in the OECD or similar "rich" nations, ie have incomes to support the sort of Ad revenue per user that it's current customer base is worth.
- It has an average revenue per user of c $4.65 per user per annum. Apparently the average user spends about 7 hours a month on Facebook. Assuming most revenue is Ad based, a CPM of c $0.5 (about the norm for the Social Media market) that's about 9,600 Ads that have to be served to each person per annum, or about 800 per month, or about 120 per hour (7 hours/month) or about 2 a minute. (Our preliminary data has Facebook running at about 2 minute per page viewed, so it needs to serve c 4 ads/page)
Looking at how it may get to $10bn revenues:
(i) Assuming average revenue stays the same - Facebook needs a c 5-fold increase in users, ie about 2.75 bn users - or more than 1/3rd of the planet's population, about 2/3rds of the 4bn online, many of those who are earn far less than necessry to justify OECD ARPU.
(ii) Assuming number of users stay constant - Facebook needs a 5-fold increase in revenue per user, is about $23 per user on average per annum. At $0.5 CPM that is 10 ads a minute that each user has to see, or it has to expand to 35 hours a month at the minimum required Ad-rate.
(iii) Assuming a rough doubling of users and revenue per user doubles to c $9.50 - Facebook grows to c 1.1 bn users (a mere 1/6 th of the world's total population) and a rough doubling of revenues per person - e.g Ad rates (2 times more Ads, or 14 hours a month, or $1 CPM).
Throughout I have used CPM as a proxy for the user's mean net present value across al services offered - yes, Facebook may sell virtual tat, or a freemium service, or whatever, but I can't see these being the main revenue drivers in the short to medium term any valuation is based over. In many ways, the fact that Facebook is going through this dodgy private IPO despite revenues of $2bn implies the same. In a way, it's main problem is the stickiness of its pages - too much time reading them, not enoght time clicking through them to get to new Ads. No doubt they are working on this, but unlike Google where you quick-click-to-find, on Facebook you are engaging with the page.
Anyway, that's what you have to believe for a $50bn valuation. My take - its do-able on a wing and a prayer, but the chances of Facebook underperforming is far, far greater than overperforming. Not surprised Goldman's own investment unit passed on it, and Goldmans in facts reserves the right to sell/hedge their stake without warning or notice.....
*Goldman's say first 9 months shows $355m net income on 1.2bn revenues - c30% - but there are likely to be annual costs that are not in that. The New York Times says $400m on $1.2bn - ie c 20% - so we will stick to our 25% estimate for the year for now)
