Making sense of the MS/Facebook tie-up

 investment, Web 2.0  1 Response »
Oct 302007
 

I must be turning into a sceptic in my old age. I simply could not believe my eyes when I read that Microsoft had invested $US240 million for a 1.6 percent stake in Facebook. This effectively valued Facebook, which anticipated revenues this year of just $US150 million, at $US15 billion dollars.

That’s a crazy valuation. I can only conclude that it was based less on the actual dollar value of the underlying equity stake, and more on ensuring no other player (specifically, Google) got the deal.

Viewed in this light, the deal has an element of logic to it:

1. Microsoft takes a ‘blocking stake’ in Facebook (while such a small holding would not in and of itself amount to a blocking stake, you could be quite confident the terms of the investment would ensure that this is so).

2. Facebook locks in a stratospheric valuation which significantly enhances its fundraising capabilities  (within days, Facebook was rumoured to have secured two investment deals with unnamed hedge funds valued at $US500 million).

3. Facebook secures a partner to take care of ‘making money’, while its management team focuses on attracting and retaining users, and implementing its “platform strategy”.

Microsoft already had an existing deal with Facebook to run banner ads on the site in the United States through 2011. The terms of the investment allows Microsoft to sell the graphical banner ads appearing on Facebook outside of the United States, splitting the revenue with Facebook.

On the basis of the revenue sharing deal alone, given how intensely popular social networking sites are (in terms of time spent viewing), Microsoft should be pretty confident it will “make” its money back (and then some) from its share of ad sales revenue. In a sense, this is a re-working of the Murdoch acquisition of MySpace – the purchase price looked way out of the ballpark, until he on-sold advertising rights to Google which effectively ensured he would make his money back within 3 years.

The critical issue for Microsoft now is how else it can extract value from the deal. You can expect to hear more about how Microsoft will leverage its product and technologies portfolio to ‘unlock’  Facebook from the Web, and enable users to access both Facebook and the growing suite of 3rd party Facebook applications via mobile devices.

Learning from PepsiCo: Changing the Game

 3rd Horizon, entrepreneurs, innovation, investment, Leadership  1 Response »
Jul 092007
 

In 2006, for the first time in 108 years of head-to-head competition, PepsiCo was worth more (in market cap terms) than The Coca-Cola Company, even though Coke still outsells Pepsi almost 2-to-1.

In 1998, Coca-Cola’s market cap was $US220 billion and the company’s stock price was trading in the high-$80s. Fast forward to 2006, and Coca-Cola’s stock price had plummeted to near the $40 mark. Worse yet, in December 2005, Coke’s market cap for the first time in history fell below that of PepsiCo’s (see note below).

Where did Coke go wrong?

Coke failed to recognise that consumers’ emerging preference for other soft beverages – water, teas, and sports drinks – would fracture demand. Instead, they ridiculed initiatives by rivals to expand into non-carbonated drinks.

As a result, Pepsi’s Aquafina became the No. 1 water brand, with Coke’s Dasani trailing; in sports drinks, Pepsi’s Gatorade owns 80 percent of the market while Coke’s Powerade has 15 percent.

Importantly, Pepsi took an even broader view than other competitors of its core market, expanding into non-beverage markets through the acquisition of Frito-Lay Snacks and Quaker Foods; the former now controls 60 percent of the U.S. snack-food market.

In short, Pepsi didn’t out-compete Coke. It changed the game.

At some point, the Boards of both Coke and Pepsi faced the same question: How much money and attention should be focused on a new, but growing, operation that is far less profitable than the core business?

Both Coke and Pepsi’s business systems were geared to selling soda, which generated enviable margins for more than a century. The profit margins on selling other drinks paled in comparison. Pepsi made the move in response to obvious shifts in consumer demand, and reaped the rewards.

In this case, it wasn’t a technological innovation (i.e. better, fizzier soft drinks) that broad-sided Coke. It was a business model innovation (becoming a “total beverage company”).

There are some important lessons here from which any company can learn. Specifically, established companies are at risk of falling into

the same “competency trap” that Coke did – continuing to invest in their traditional core competency to such a degree that they become unresponsive to the wider market play.

(Note: As at the time of writing, the market cap imbalance appears to have been rectified – PepsiCo’s M/C was $US107.87B compared to Coca-Cola’s $US121.50B. However, this is a little misleading. PepsiCo’s shares closed at $US66.22, compared to Coke’s $US52.60, and PepsiCo had a P/E of 19.50 and Earnings Per Share of $3.40, which is much healthier than Coca-Cola’s, at 23.51 P/E and EPS of $US2.24)

 

Are you ready for it? (Australian Anthill)

 entrepreneurs, investment, investors, VC  No Responses »
Apr 092007
 

The following is an unedited draft of a regular column – Neely Ready – that I write for Australian Anthill, a new-ish magazine with a focus on innovation, commercial enterprise and breakthrough technologies. I will post articles or article excerpts from time to time, as well as other pointers to great content in the magazine or its web site.

—8<—

Are you ready for it?

The statistics are disturbing: a typical venture capital (VC) firm receives around 1000 business plans a year, and quickly rejects 90% without a detailed review.

The problem is not a shortage of investment funds – money will always be available for promising investment opportunities. Rather, most entrepreneurs do not understand the expectations and requirements of VC investors and are unable to communicate their business proposals as attractive investment opportunities.

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