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Facebook and WhatsApp: A Good Acquisition for the Future

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Facebook (NASDAQ: FB  ) paid handsomely for WhatsApp at $19 billion. Yet, considering the market value for fast-growing social media companies like Twitter (NYSE: TWTR  ) and the disruptive nature of its business to the likes of AT&T (NYSE: T  ) , it's possible that Facebook made a good purchase.

Valuation assessment of WhatsApp
Facebook's acquisition of WhatsApp has been debated, covered, and assessed from just about every angle, but perhaps the most telling metric to show just how much Facebook paid is WhatsApp's current revenue stream.

WhatsApp uses a system where its service is free for one year before users pay $0.99 annually. If all of its current 450 million users were to pay the $0.99, then WhatsApp would generate about $450 million in annual revenue.

At Facebook's $19 billion purchase price, WhatsApp will need more than 40 years' worth of revenue for the acquisition to pay off from a sales basis -- not profit. Mark Zuckerberg did say that he expects WhatsApp to exceed one billion users within a few years, meaning it will take about 19 years for Facebook to generate as much revenue as it paid to acquire the company.

WhatsApp: Users to monetize and insane growth
At $19 billion, this acquisition is really hard to wrap our minds around. After all, $19 billion is a lot of money, more than the valuation of disk-drive leader Seagate Technologies, data management company NetApp, or massive telecom equipment company Alcatel-Lucent, all of which have many billions in annual revenue.

However, in the land of new tech, or social media, 40 times sales is about the going rate. Consider that Twitter trades at a whopping 46 times sales, and its monthly active users grew just 4%, quarter over quarter, in the fourth quarter. On the other end, WhatsApp has been growing at about one million new users a day, a rate that far exceeds Twitter.

Nonetheless, Twitter is expected to grow revenue by 85% in 2014 with far less user growth. Essentially, this means that WhatsApp's growth may not be dependent on user growth, but rather new revenue streams that Facebook may implement. Maybe we'll look back in five years and see that Facebook's $19 billion acquisition was in fact a good deal.

The acquisition itself is likely not obscene from a valuation perspective, as Facebook has proven itself more than able to monetize user engagement and growth.

WhatsApp is disruption at its best
There's one more reason that Facebook might have thought $19 billion was a good price, and that is the fact that WhatsApp is a very disruptive service to a massive telecom industry.

Bloomberg reported on Friday that free social-messaging applications like WhatsApp cost phone providers globally $32.5 billion in high-margin texting fees in 2013. That figure is expected to reach $54 billion by 2016.

These are incredible numbers, and due to the high-margin nature of texting fees, this could cause significant problems for telecom companies worldwide. For example, AT&T reported $128.7 billion in total revenue during 2013, growth of about 1%. However, its voice and text business reported an annual loss of 2.6% on revenue of $39.8 billion, which clearly shows a fundamental disconnect from the growth of AT&T's total business. Investors must assume that services like WhatsApp have played a large role in this decline, which has hampered AT&T's total growth.

AT&T's fundamentals alone shows how disruptive services like WhatsApp have been to the telecom industry. With users expected to double in the next few years, and WhatsApp being the largest operator in this space, Facebook and Mark Zuckerberg may have just gained an extraordinary amount of leverage over the telecom industry. Considering the growth of mobile for social media, such leverage is a great weapon to own.

Final thoughts
When Google bought YouTube and Facebook purchased Instagram, no one thought it was a good idea. However, looking back, both have grown to become important businesses.

WhatsApp isn't GeoCities, The Learning Company, or other well-known, expensive flops like of the dot-com era. This is a legitimate company with a large user base that is disrupting businesses in the same way that Amazon, Google, and Facebook did in their early years.

Don't count out Zuckerberg's ability to turn WhatsApp into a service that delivers more than a $0.99 annually per user. Its disruptive nature and fast-growing business suggests that it might, in fact, be highly useful in Facebook's long-term vision.

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Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On February 25, 2014, at 9:59 PM, vkmo wrote:

    Zuckerrrr is a bigger fool than we thought. FB could have made similar software to do bigger things at a fraction of the cost.

  • Report this Comment On February 26, 2014, at 6:58 AM, sanoran wrote:

    The more i see articles trying to convince me that Zuckerberg did a 'great' thing buying WhatsApp, the more I become suspicious that it was a d umb thing.

    Zuckerberg made his billions because all the sheep herded to his website. His website (aka Facebook) has zero intrinsic value. So the sheep that had so eagerly flocked to him, are now happily herding somewhere else, ... like WhatsApp.

    Without young users, Zuckerberg's website is 'GrannyBook' :) So Zuckerberg, like Marisa Mayer, is chasing sheep, trying to buy them.

    The sheep, or people who are dumb enough to waste time on Facebook or tumbler or whatsapp, are easily distracted. Zuckerberg's desperation shows that the herd is moving out faster than we thought.

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Brian Nichols

Brian Nichols is the author of "5 Simple Steps to Find the Next Top-Performing Stock: How to Identify Investments that Can Double Quickly for Personal Success (2014)" and "Taking Charge With Value Investing (McGraw-Hill, 2013)". Brian is a value investor, but emphasizes psychology in his analysis. Brian studied psychology in undergrad, and uses his experience to find illogical value in the market. Brian covers technology and consumer goods for Motley Fool. Brian also updates all of his new and current positions in his Motley Fool CAPs page. Follow Brian on Twitter and like his page on Facebook for investment conversations and recent stories.

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