Bubble or Bank for Web 2.0: Microsoft Friends Facebook for $240 million

In October, Microsoft bought a 1.6 percent stake in the social network Facebook (see right) causing a buzz reminiscent of the 90’s dot.com bubble. The international powerhouse Microsoft handed out $240 million for the tiny portion of Facebook valuing the site at $15 billion, the fifth most valuable Internet company after Google, Yahoo, Amazon, and eBay. With 50 million users and 200,000 joining daily, Facebook hosts a significant customer base on which to draw for companies like Microsoft. Microsoft’s investment is not the only one Facebook has received as two hedge funds also put in similar bids, which Facebook accepted according to articles in CNN. In all, the social network picked up $700 million dollars to put towards a badly needed structural overhaul and R&D for the future. However, Facebook’s revenue is one-tenth its $15 billion price tag, and the site produces no profits.

The parallels are glaring, but is this really the harbinger of another collapse? Some are calling the recent acquisition of Web 2.0 companies, like Skype and YouTube, Bubble 2.0. eBay acquired Skype in Sept of 2005, and Google bought YouTube.com for $1.65 billion in November of 2006, but to the trained eye there are distinct differences that should make everyone breathe a sigh of relief (see below right).

The inflated price tag of Facebook is partly the result of an online advertisement war (see below left) being waged by technological powerhouses Microsoft and Google. The investment in Facebook was a defensive maneuver on the part of Microsoft as Google has the upper hand in the online arena. Google already has advertisement deals with other social networks such as MySpace and even has its very own online meeting place called Ortuk. However, some experts like Matt Rosoff, an analyst specializing in Microsoft, believe that even though the deal was a good move, the price tag smells suspiciously of the 1990’s dot.com era. John C. Dvorak of PC Magazine echoes this sentiment calling a collapse “a sure thing.” On the other hand, a recent article in Business Week claims that once “beyond gut feelings, the comparison simply doesn’t stand up.”

The high values for Web 2.0 companies in addition to the skewed price to earnings ratios they enjoy are the cause for comparison to the 90’s e-commerce bubble. However, there are a few significant differences when comparing the two. First of all the business being acquired have active members and are not based on speculation. Internet based companies now have a model to make money by that is centered around advertising and not the idea of e-commerce. Secondly, the 90’s boom was fueled by IPO’s, money those companies never actually had. The acquisitions going on today are bought with cash reserves from well-established businesses. Another reason is a result of changes in the technological market. More than 70% of adults in American are online as opposed to 40% in less than ten years ago. Compounded with the fact that most of the new startup companies, or Web 2.0 companies, advertise themselves online instead of using costly television ads.

In light of this, I believe that there is justification for the price tag and no reason to be worried by a imagined looming bubble. With so many users already and more joining every day, Facebook is a massive potential advertising machine. Traffic is so high on social networking sites and other Web 2.0 applications that revenue from advertising would be more than significant. Microsoft needs this deal to increase its online presence in the face of a looming Internet war with Google. Blocking Google out and increasing advertisement presence is a significant move especially when the price tag only makes up less than a percent of the buying company’s value. In the end, the price tag remains a little excessive, but the scare of a bubble should be left in the 90’s.