Saturday, October 08, 2005
Irrational Exuberance 2.0 (Or Not)
Got the following comment:
"...The problem with your analysis is that none of these valuations are "validated" until these buyouts (Skype, Weblogsince...) are shown to have been profitable. The fact that that a weakened AOL jumps into blog-content with a small-change investment doesn't mean anything yet, and we won't know what it means until a few years from now when we see what kind of ROI they got. Same with Skype.
This isn't the first time you've talked about validation this way, but it seems inappopriate."
Thanks for the comment. Whether intentional or not, this is the standard Media 1.0 take on Media 2.0 market entry. Partly, it's because many Media 1.0 businesses treat acquisitions as almost purely financial (viz, films). But in a 2.0 world, it's flawed for many reasons, not least of which it's first-order thinking. Some points to note.
1) Skype, weblogsinc (etc) are in fact profitable, from what I understand.
2) To drive the point home, let's think about Flickr. If Flickr's margin never increased beyond 1%, but the acq still helped Yahoo build a huge competence in communities (ie, boosted margins across businesses/products by increasing returns to scale for network economies), would the benefits outweigh the costs? I think, pretty clearly yes. Can you quantify this? Sure, I won't go into it here, but you could check out my latest ppt for some examples.
The point is that the commenter is treating these acqs as purely financial when pretty obviously they're strategic; it would be silly of AOL to acquire weblogsinc, run it as a standalone entity, and expect a nice 'ROI'. Clearly, they're expecting some kind of synergy gains.
3) Now, for the commenter, profitabilty is what validates new market spaces. I think that a spate of acquisitions factoring in large synergy gains are a nice signal that the market is factoring in profitability.
Finally, I distinctly noted that I didn't think the acq validated 2.0 content plays generally - only from the perspective of risk-seeking guys like Calacanis and Denton.
4) uhh, d00d, it's not like I posted a naked pic of Condi. That would be inappropriate.
Last thing - I was just reading your blog to get a little insight into where you're coming from; you talk about how Skype's got 'negative scale economies' (ie, scale diseconomies). Check the chart and you'll see this is distinctly not the case. This is the heart of where our we disagree with each other.
Sorry, but you still haven't explained anything, though something may have been lost on me in all the jargon.
I agree with you completely that the returns from these buyouts (flickr, skype, weblogsinc, etc.) may not be direct, but may be seen in increased margins across the network, but then we're still talking ROI! There's no such dichotomy between a financial and a strategic acquisition. The only measure of an acquisitions soundess is whether it delivers greater returns then then could have gotten elsewhere with that money. QED.
As for 1.0 vs. 2.0 thinking, 1.0 had a name for your kind of logic: Synergies. It was largely nonsense.
When these deals payoff, in some form or another for these companies, then we can say that the prices were validated...not at the time of the deal.
I updated the post after you responded. You may want to see the updated post.
As for "...the only measure of an acquisitions soundess is whether it delivers greater returns then then could have gotten elsewhere with that money.":
Strategically, this is a meaningless statement. Weblogsinc is worth $20m to AOL, but only about maybe $2-3m to you or me. We don't have the resources to extract more value.
You're leaving out half the equation, dude. That's the critical diff between a strategic + financial buyer.
I don't agree at all that synergies are largely nonsense, especially in the media space. The market agrees with me.
Finally, you seem to misunderstand my whole point, though I keep explaining it: I mean validation from the venture investor's POV - the guys that backed weblogsinc, Skype, etc. *Not* from the perspective of the acquirer, or the entrepreneur, etc.
How is it possible for an acquisition to be validated for the buyer the day the deal's closed?! Obviously, that's not my point.
Oh yah - you are more than a little condescending. If you wanna be nice, I'm more than happy to discuss. If not, I'm not gonna continue putting up with you dude.
Apologies for the condescension. I agree, civil discussion is better. I see now what you are saying; yes a $4 Billion payday for Skype's VC backers is some pretty awesome validation.
But let me say this, if these deals don't prove to be worthwhile for the acquirer, then the VCs investing in startups today will find a sorry market for their portfolio companies a few years down the road. Therefore, I'd say, that venture capitalists should be wary about using these pricetags to value the companies in their portfolio.
As for the argument that Weblogsinc is worth a different amount to AOL then it is to you and me, this is true, but just because they payed $20 Million doesn't mean it's worth $20 Million. Again, we'll see. I still say that an acquisition *must* be measured against opportunity costs for the capital used.
Considering the AOL/TW earned $3.3 billion last year, the opportunity costs for the used capital is insignificant.
00.06% of earnings is nothing. If they look back and a few years and they were wrong - then who cares?
But if they are correct, they have acquired some key synergies and communities to increase the value of their brand.
At that price, they can't afford to take the risk of NOT buying weblogs inc.
How could AOL have better spent $20M?
Funny, I don't recall saying it was a bad deal for AOL. My point remains simple--the valuations on these deals can't be said to be "validated" until, down the road, it is determined that AOL got a decent ROI on their purchase.
Considering this, VC's should be thinking about creating quality profitable companies instead of hoping that their technology will valuable enough to sell to GAMEY (Google, AOL, Microsoft, Ebay, Yahoo)
And yes, this purchase was miniscule...though that only goes to show how out-of-touch blog-folks are, that a small-change purchase like this has gotten so much attention and analysis.