In the fast-moving world of technology and social media, it may have been easy to miss this week’s news that Snapchat, currently the fastest-growing messaging service in user terms, was valued at 3bn by Facebook. In this article I question why, and examine what has led to so many new mobile apps being given multi-billion dollar valuations.
Snapchat is different from other players in the market because of its simplicity; a user simply takes a photo or video and sends it to anyone on their friend list. Dozens of other apps offer this same service, but on Snapchat the photo is only there for as long as the sender chooses to make it visible – up to a maximum of ten seconds. After that, the photo is gone forever. Many, your author included, have been taken back by the valuations given to technology start-ups such as Snapchat, with recent stock market flotations being reminiscent of the 1990s technology bubble.
Twitter, another company which offers a remarkably familiar service – sharing thoughts and photos with online ‘followers’ – was recently listed on the New York Stock Exchange, with the share price rising by 73% on the first day of trading. The current market valuation is around £23bn (£14bn), this for a business which made a loss in the first six months of 2013 of 69m.
So just what is giving rise to these sky-high valuations? Firstly, social networking sites have experienced rapid user growth, for the most part as a result of smartphone ownership continuing to increase, which means more people are using these services, and on a more regular basis. If all the Facebook users in the world lived in one country, it would be the third most populous, as roughly one-in-six people currently have a Facebook account. The figures are equally impressive for Twitter, Snapchat and many others.
However, it is not simply the number of users which determines a company’s success, as has been seen by the demise of once-popular Blackberry and Myspace. The former has gone from an 80bn valuation to just over 3bn now, and Myspace was famously bought by Rupert Murdoch’s News Corporation for $580m in 2005, and sold for $35m only six years later. Social media firms have to strike the balance between making their service profitable and keeping it as user-orientated as possible.
This leads almost to a contradiction; traditionally revenue on mobile phones has come about through adverts or paying for the apps. But adverts are intrusive and detract from the clean, simple layout which is so attractive to users. Adverts are often flashy and frustrating, but brands want access to such an expansive market which makes the returns attractive. However, distracting adverts can deter users, particularly when so many competing services are available just a couple of clicks away.
So the dilemma which faces these companies is how to become financially viable whilst maintaining the respect and attention of customers. This is not an easy task when many of these firms are only a year or two old, in a market where progress never stands still. That said, clearly they have been successful in creating significant value: the question is whether the price tags are justified.
In rejecting a $3bn takeover offer from Facebook, Evan Spiegel, Snapchat’s founder, sent the bold message that he was willing to keep the company under independent control rather than cash in at this early stage. This could be in part due to the shifting demographic of Facebook users: the percentage of 16–25 year olds who check Facebook daily has actually fallen in recent months, in large part due to the increased advertisement exposure and ‘sponsored posts’, which arose shortly after the company listed on the stock market in May 2012, followed by volatile financial performance.
On the other hand, Spiegel may have more ambitious plans for the service than arbitrarily placed adverts, and in this industry there is an enormous amount of room for innovation, and very little stopping him from trying new ideas. Perhaps merging with Facebook represented a move towards integration with a service that has not fundamentally changed over the past nine years; something which he was keen to avoid.
The value which tech giants such as Facebook place on these up-and-coming firms shows an awareness of the value of new ideas into the market, and acknowledges that failure to change and innovate will result in a slow demise for the company. But realistically, such companies are rarely turning over significant amounts of money, if any. The costs of running an app such as Twitter or Instagram behind the scenes are enormous, and are unlikely to fall, considering that Facebook stores every photo since the company’s inception on its servers. So if Facebook loses interest in Snapchat, does it retain this value? Would private investors being willing to pay this amount, or could the money be raised through a flotation?
Realistically, it would be difficult to answer this question considering what drives many investment decisions. Can investment managers predict what will be successful in the future? No more than anyone else – the fate of these social media sites and apps depends significantly on the strategic and design decisions which the websites make, but in a large part how these changes are received by users.
Ultimately, the success of Snapchat will depend on attitudes to social networking and smart phones in general. It has become increasingly common to see people sat together, but shunning their company in favour of interacting online. The concept of taking a ‘selfie’ could be seen as fairly laughable. When your entire business model depends on sending self-destructing selfies, that’s an incredibly big risk to factor in. Perhaps it would have been a wise idea to take the cash offer before, it too, is never to be seen again.