Facebook and WhatsApp: A Good Acquisition for the Future

Facebook may have overpaid for WhatsApp, but what it gained is a fast-growing disruptive service with the potential to thrive.

Feb 25, 2014 at 7:00PM

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 Broadcast.com 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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Brian Nichols has no position in any stocks mentioned. The Motley Fool recommends Facebook and Twitter. The Motley Fool owns shares of Facebook. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

4 in 5 Americans Are Ignoring Buffett's Warning

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Jun 12, 2015 at 5:01PM

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David Hanson owns shares of Berkshire Hathaway and American Express. The Motley Fool recommends and owns shares of Berkshire Hathaway, Google, and Coca-Cola.We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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