Facebook’s recent announcement of its deal to purchase WhatsApp for $19 billion dollars has sent shockwaves through the tech world. While supporters of the deal laud Facebook for gaining 450 million monthly active users, analysts point out that WhatsApp has been overpriced. To put it into perspective, WhatsApp is now worth 10 percent more than Sony’s market cap and more than Southwest Airlines or Marriott International. For $19 billion dollars, each WhatsApp user is worth $42, even though the app is free and only generated revenues of around $20 million last year, a hundredth of Facebook paid to acquire it.
But the acquisition of WhatsApp is just the latest in a series of deals by big tech companies, including Yahoo!’s acquisition of Tumblr, and Facebook’s Instagram purchase. Although the other deals were valued around $1 billion, a much cheaper price than WhatsApp, they all represent a precarious trend that these Internet tech companies have to maintain high growth just to survive. All of these deals are not purchases of products, but purchases of customers. Since these companies rely on an advertising model to monetize, they constantly need fresh users to replenish their audience for ads.
They also need to battle every flash-in-the-pan app that starts gaining users quickly, because those startups could be taking customers. Unlike other companies mentioned, such as Southwest Airlines or Sony, Internet companies have extraordinarily low barriers to entry, sometimes requiring just a college kid with a laptop and a dream. This means that every small startup could be a competitor. While product companies sit comfortably on their large market shares, companies like Facebook have to be constantly vigilant.
These big Internet companies fill this need for users and stave off the competition by periodic acquisitions. In essence, Facebook saw purchasing WhatsApp as a way to simply survive. Unfortunately, the costs of these acquisitions show that this strategy is unsustainable in the long term. WhatsApp’s acquisition is more than just a pricey Facebook buy, it may also signal that Silicon Valley is in a tech bubble that is bound to pop.
Advertising is a fickle monetary strategy, relying on users to keep using the product at all times. Although product sales can rely on repeat buys (think household products, which also have more brand loyalty), people are less inclined to switch haphazardly from one brand to another, while any small dissatisfactions can uproot teenage social media users to seek another platform. If the only revenue stream for a company is in advertising, that is a problem.
The companies that survive are the ones that will diversify from that revenue model. Google, for example, does a great job of doing this. Even though the lion’s share of their current revenue comes from advertisements, other areas of their revenue are also growing, namely in the Google Play store and in their hardware developments. Google has expanded its business from a simple search engine and Internet services like email to include increasingly popular Chromebooks, the Google Play store (now the biggest app store) and other projects like Google Glass. It has also acquired a series of robotics companies like Nest Labs, maker of automated home thermostats, Boston Dynamics, maker of robots for military uses, and SCHAFT Inc., creator of disaster-relief robots. This expansion into hardware shows a diversification strategy into areas of tech that benefit people in concrete ways and doesn’t rely on teenagers’ clicks.
Many of these companies are the ones heavily recruiting Princeton graduates, building strong reputations with heavy campus involvement and hard interview processes, but a good reputation doesn’t always translate to longevity. Students have to recognize that glamour and publicity don’t mean success, but instead are something to watch out for in the future, especially in the tech field.
Barbara Zhan is an Operations Research and Financial Engineering major from Plainsboro, N.J. She can be reached at barbaraz@princeton.edu.
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