It’s been quite a while now that “gurus”, “pundits” and “experts” have been bandying about the term “Social Media”, proffering it as the catch-all for market penetration and business success, without honestly having any sort of traditionally measurable proof of merit in hand.

There’s no question that Social Media is an exciting activity sector, promising diverse new and enhanced points of connection with customers and clients. Quite how those connections will translate in to the type of metrics favored by traditionalist CFOs and shareholders is still under debate.

While the aforementioned experts continue to find ways to align this new engagement paradigm with traditional Cost/Benefit analysis modeling, I suggest that such ROI measurement is perhaps something of a fool’s errand, (1) because marketing has never been measurable in the manner that so many companies historically demand, and (2) because the commitment required to successfully maximize the potential of today’s emerging platforms and tools for customer engagement is far less measurable than ad or PR campaigns have been, in the past.

Social Media is more than a marketing campaign ecosystem, wherein one might deploy emerging product offerings or test possible brand evolutions. In fact, I would love to get rid of the term “Social Media” altogether, because it brings with it an unfortunate sense of frivolity that has been compounded by the visible (yet relatively small) part of social media, known as Social Networking (domain of Facebook, MySpace, Youtube, et al).

From a business perspective, the notion of “Social Media” stinks too much of an ongoing teenage chat session, with no goal in site.  Many social media gurus will argue that this is quite so, and crucial to a business’s success in the 21st Century. While I strongly concur that engaging in a more open and collaborative dialog with consumers and users is an imperative in the contemporary marketplace, I also feel strongly that there exist few businesses that can afford to invest time and money in open-ended discussions with their prospects, “just because”. In the end, a business has something to sell, and its activities should be focused on this goal, as well as the post-sales services necessary to ensure the new customer becomes a de facto account executive for the brand. Smart marketing is a strategic endeavor, managed at the C-Suite level, and designed to position a company’s offering(s) as impactfully as possible, with the ambitious objective of turning salespeople into customer relations advocates.

By all means let’s call it “Social Media” when we’re reconnecting with old High School friends and sharing photos with cousins across the world.  With respect to B2B and B2C connections, let’s expand the term, and call it “Social Engagement”. That is, after all what it’s about, isn’t it? The more measurable activity is whether and how we might engage with and activate our end-user community to become partners in the enhancement and advancement of our brand (and its varied offerings).  In some instances this will be sociable (Facebook Pages, Twitter feeds, comments threads, etc), in others more buzz marketing oriented (viral branded content, competitions, internal communications, polls, etc), and in yet others wholly functional and tactical (SEO, brand monitoring, bookmarking, corporate HR, medical resource sharing, media asset management, and so on).

There’s a lot we can do with the tools, platforms, and channels available to our businesses today, but we need to think of our Social Engagement strategy as more than “getting on Facebook” or “starting a blog”. It is a commitment – both online and offline – to connecting with our users, employees, and clients in a more dynamic and potentially rewarding manner than ever before. It is a far more organic and open-ended engagement than we are used to (and perhaps comfortable with). However, it still merits careful strategic forethought and measured management.

To begin, despite that fact that she uses the term I have renounced above(!), I am thrilled to introduce our latest contributor, Pam Dyer, a marketing consultant from Seattle. Her article below offers up a dozen arguments in favor of Social Engagement in the online space. I know that you and I could together come up with an additional 12 reasons, specific to your particular situation, so and I therefore challenge you to make your own list of 8 more, just for the fun of it (and DON’T limit yourself to online opportunities). With 20 compelling reasons to activate your “Media Engagement” endeavors, you will soon be leveraging a previously confusing array of ever changing networks and tool sets, in service to your brand and, more importantly, the long term health of your business.

Social media is fast becoming an essential part part the marketing mix for brands. Companies are increasingly using social tools to monitor conversations about their products, competitors, and industry, and engaging with their customers to build strong relationships. According Forrester Research’s most recent Interactive Marketing Forecast, social media marketing will grow at an annual rate of 34% -– faster than any other form of online marketing and double the average growth rate of 17% for all online mediums:

And new research from Access Markets International Partners shows that almost 70% of small and medium businesses actively use social media sites like Twitter, Facebook, and LinkedIn to promote themselves. But simply posting what your CEO had for lunch isn’t going to help much with your branding efforts — it’s important to strategically use social media tools to increase exposure and reach your target audience.

Here are 12 compelling reasons to use social media to help grow your business:

1. Own your brand’s social presence: If you don’t create official channels online, it’s only a matter of time before your fans do it for you and create their own profiles and communities around your brand. It’s important to claim your brand name across all the major social media platforms. Here are two sites that will help you do this:

  • KnowEm: KnowEm has the highest number of sites (over 350) available for checking username availability. Simply by entering your desired username, you’ll be able to find out instantly if it’s still available. KnowEm also offers paid plans, from just signing up and registering you at 150 sites, to a full-featured plan which also fills in all profile details, complete with pictures, at 100 to 300 different networking sites.
  • namechk: Covering 72 major social networking sites, namechk is simple, fast, and easy to use. If your desired username or vanity URL is still available, you simply click through each one to claim it. If your brand isn’t consistent across the Web, namechk can help you by determining which usernames are still available on a number of the most popular sites.

2. Look like you “get it”: Your target audience is becoming more shrewd about leveraging social media sites as an integral part of their daily lives. If you want to appear relevant and in-step with the latest advances in technology, your potential customers will want to see you on these sites as well. If you don’t have a presence, you appear as if you’re not very savvy.

3. Brand recognition: You need to go where your customers are, and they are increasingly spending a great deal of time on social networking sites. Using social media enables your company to reach a huge number of potential customers. Getting your name out there is incredibly important — studies suggest that people need to hear a company’s name at least seven times before they trust and respect it enough to become a customer.

4. Take your message directly to consumers: Social media tools enable you to directly engage consumers in conversation. Be sure to build trust by adding value to the community consistently over time.

5. Increase your search engine rankings: Social media profiles (especially those on Twitter, Facebook, and LinkedIn) frequently rank highly with major search engines. Creating keyword-rich profiles around your brand name can help generate traffic for your both your social-networking sites and your company’s Web site.

6. SEO benefits: Many social media bookmarking sites use NOFOLLOW tags that limit the outbound link value of posts made on their sites, but there are still many leading sites that allow DOFOLLOW tags — including Friendfeed, Digg, and Mixx. You can also benefit from posting to bookmarking sites that use NOFOLLOW tags if people read your posts and link back to your Web site.

7. Social media content is now integrated with search results: Search engines like Google and Bing are increasingly indexing and ranking posts and other information from social networks. Videos from popular sites like YouTube can also be optimized for indexing by the major search engines.

8. Brand monitoring: Having a social media presence gives you a better understanding of what current and potential customers are saying about your products and services. If you actively monitor social conversations, you have the opportunity to correct false or inaccurate information about your brand and address negative comments before they take on a life of their own.

9. Generate site traffic: You can create additional traffic if you regularly post updates on social networks that link back to your Web site. Social media bookmarking tools like Digg, Reddit, and Stumbleupon can also generate additional traffic to your site if you create frequent articles and blog posts.

10. Find new customers through your friends: You shouldn’t neglect your personal social media accounts as potential avenues to promote the activities of your business. Posting regular updates relating to your business and activities can remind your friends about what your company does and influence them to use your services or make referrals.

11. Find new customers through your company profile: Your company profile is a great opportunity for you to post regular updates on your activities and about important news and trends in your industry. This will attract the attention of new customers interested in your industry and increase your reputation as an expert in your field. It’s important to post regularly if you want to increase your followers or fans and convert them to potential leads.

12. Niche marketing: Social media enables you to reach very specific subsets of people based on their personal preferences and interests. You can create unique social media profiles to target these audiences or create strategies based on addressing individual interests.

Pam Dyer has 14+ years of MarCom experience, in-house for a number of years at Northwest Nexus and Winstar, and now as a consultant.

Have you heard of Habbo, MyLife, Netlog, Orkut, QZone, Tagged, RenRen or Vkontakte? These and plenty of other social networking sites boast impressive numbers of registered users on each, and they are but a few of the high fliers that may have nevertheless slipped under your radar.

Social networking is – despite its paradigm shifting promise – a business proposition not unlike many others: it begins with an exponential market grab, representing the transition from fad to trend more than anything else. That stage is now passed, and is being replaced by the inevitable “backlash and absorption” period: For every Facebook, there are many Bahus, Mugshots, Pownces, Sixdegrees, Soundpedias, Yahoo360s, et al. The list of broken and dissolved social networking sites will grow as alarmingly as once did the numbers of people registering on some of those same sites. This list will be matched only by the accelerating roster of social media companies being purchased, absorbed, liquidated, and otherwise consumed by more robust and aggressive “co-opetition”. This happened in the automobile industry, in the banking industry, in the airline industry…and it will happen with this new socially impactful dynamic.

So all this was predictable enough, and shall come to pass (it has already begun). However, there is a 3rd – and less quantifiable – dynamic which is inexorably rising in influence, and could prove more impactful than any of the other aforementioned mitigating trend milestones: user burnout.

When new social networking sites cropped up over the past few years, many of us felt compelled to sign up with each and every one, for fear of finding ourselves on the wrong bandwagon, stranded at the starting point while everyone else rode thrillingly forward on the roller coaster of social media engagement. Today, it is not unusual for individuals to belong to 5 or more social networking sites, and consequently spend a large portion of their day managing their online presence. This investment of time is not matched by the reward, and the ROI (Return On Investment) must be at least balanced for an initiative to survive. While the social media brands will do their part in the coming months to raise their value proposition via conglomeration, acquisition, and improvement, this will not- in and of itself – suffice.

I predict (not sure you can predict something that is already manifesting itself, but there you go!) that the next 4 months will see a powerful degree of social network decline and realignment, as consumers and users begin to streamline their social presence online, and deactivate certain accounts, in favor of others. We have kicked the tires long enough, and the testing phase is over. Selections will be made, and loyalties cemented.

Facebook
While Facebook has made several missteps along the way, I see most people sticking with that brand, so long as Messrs Zuckerberg et al don’t really screw things up: we sense there is a bigger, more long-term vision at play here, and are willing to stay on the ride, for the present.

LinkedIn
With a little spring cleaning, and cross-platform functionality (the Blackberry app is very weak, and the TripIt app seems occasionally buggy, to name but a couple), this brand could prosper during this phase. It remains to be seen how the business model will integrate itself with potentially complementary offerings.

Orkut/Plaxo
Can more than one address book aggregator survive? Is there a merger in the offing? Which will be the first to aggregate in the Cloud with full effectiveness? Will LinkedIn realize that it could – in fact – slip past these two in that offering, and become the default Cloud business address book, as well as online profile and professional group discussion environment?

iRead/GoodReads/Amie Street/Last.fm/ReverbNation/deviantART/Shelfari/Buzznet/ANobii/Librarything/etc…
There are way too many book and music social networks out there. Watch as the smaller ones either become absorbed into larger offerings (will Pandora and Slacker also move more aggressively in to the space and compete, or will partnerships such as the recent FB bridge suffice?), or carve out ever more specialist niches for themselves, like crabs scuttling out of reach of their predators..?

Stickam/OneWorldTV/FilmAffinity/YouTube/imeem/Gather/Flickster/Auters/etc…
How many social networks can the movie-fan community support? With Hulu and others bound to upgrade their social media integration, I imagine this will be another area ripe for confluence.

With over 400 (at last count) social networking sites currently in operation, and a plethora in the offing, we have finally reached the point, I believe, where saturation has peaked and integration and selective pruning will ensue, manifest from all quarters. As I suggested above, brands will dissolve through neglect or lack of differentiation; others will be absorbed by stronger enterprises, for better or worse; and still others will find themselves deselected by their user base: the Dodo birds of Social Media.

After a period of fat trimming, including some new introductions that make sense (Social Media for the under 13 set is a challenging but attractive sector, so long as the privacy and protection issues are well-managed, and there are several compelling players coming out in the next month or two), social media will settle in to its next phase of existence: less intrusive yet more smoothly integrated into our daily lives. The novelty has worn off, and the value needs to clarify and communicate itself. More importantly, the value must find a way to unobtrusively integrate itself in to our daily lives, so that it becomes a tool in our quotidian existence, as opposed to a distraction.

Habbo (162,000,000 registered users), MyLife (51,000,000 registered users), Netlog (62,000,000 registered users), Orkut (100,000,000 registered users), QZone (200,000,000 registered users), Tagged (70,000,000 registered users), and Vkontakte (73,000,000 registered users).

Former equity analyst, domain name broker, and social networking early adopter Lou Kerner shares here his (and his co-author, Eli Halliwell’s) research in to the true market value of Facebook:

Current trading price in private market: $38      Target price:     $100

 

Overview:

  • Facebook is the most powerful website the world has known : With over 400 million reported users spending an average of 55 minutes per day on its site, Facebook is the most ubiquitous and transformative media company on the planet poised to create tremendous shareholder value as it begins to monetize its vast audience. Facebook already has ¾ the reach of Google and three times the average time spend per user, yielding Facebook double Google’s aggregate global time spent; and Facebook is on a dramatically steeper growth curve, growing its reach by 150%+ in 2009 vs. 40% growth for Google.
  • Facebook already drives more traffic to the leading portals than Google: While Google has long been the major driver of traffic to the majority of websites in the world, “friendcasting” on Facebook (when a friend uploads a link to content and someone clicks on it) is already a larger driver of traffic to sites like Yahoo and MSN than Google, according to Compete.com. If Facebook successfully leverages its new relationship with Microsoft’s Bing, implements more social search tools, grows its fan pages, and enables the continued natural growth of “friendcasting”, Facebook should surpass Google as the largest driver of traffic globally later this year.
  • Facebook is tracking to be a $100B company: Google has demonstrated how to monetize the time and data users give to the site daily. Facebook’s potential to monetize both time spent and data shared may be even greater than Google as it generates more time and significantly greater data on its users. Facebook also benefits from a network effect that doesn’t exist at Google. Each incremental user adds geometric value to the network. As Facebook achieves its goal of building the dominant global networked communications platform, it will begin to leverage its reach and earn its share of global advertising, ecommerce and payment revenues, possibly rivaling Google’s earnings potential. We estimate that Facebook will be worth more than $100 billion by 2015 using the same multiples on Facebook’s forecast 2015 EBITDA as Google is valued at today. More aggressive (but still reasonable) multiples and growth rates would yield values rivaling Google’s market cap of $140+ billion, ex cash.
  • Facebook is worth $50B today: If Facebook is worth $100 billion in 2015, discounting that valuation back to today with a 15% discount rate, gives the company a current value of ~$50 billion. Regardless of the discount rate you use, Facebook offers a very compelling investment opportunity at current prices.
  • Facebook is privately traded at 60%+ discount to its current value: Most investors don’t know you can buy Facebook shares today, pre-IPO. While the market for Facebook shares is not robust, there were millions of shares traded last year through private marketplace websites like Second Market.com, SharePost.com and others. Only accredited investors are allowed to participate. Currently, ask prices are about $38/share, implying a market cap for Facebook of ~$19 billion. Relative to the $50 billion fair market value we see in the company, this represents a 60%+ liquidity discount.
  • Facebook only has to earn $7 per user in EBITDA to justify our valuation: Dividing our $50B target by Google’s current trading multiple of 18X EBITDA implies that Facebook currently has earnings power of $2.8B in EBITDA. Dividing the $2.8B by the current base of 400 million users implies $7 of EBITDA per Facebook user. Facebook will have far more than 400 million users in 2015, so this is a conservative estimate. Even at $7/user, our projection is that Facebook would earn significantly less per user than other major internet companies. Amazon earns $15/user; Google earns $20/user; and eBay earns $34/user. While each of these companies operates with different business models, they all rely on aggregating huge volumes of users to create value for their investors. Facebook will earn ad revenue like Google, commissions on transactions like Amazon and eBay, and fees on payment processing like eBay. In presenting this metric we are demonstrating that even if Facebook’s earnings power is significantly less per user than other major internet players, it would still command a $100B market cap.

Quick Facts (according to Facebook , Alexa.com and Compete.com):

  • #2 website globally in total page views behind Google; should pass Google in first half of 2010.
  • At 30%, Facebook has the same global reach that Google had 1 year ago.
  • Both Google and Facebook should have global reach of ~50% by end of 2010.
  • 2 years ago Facebook’s global reach was just 6%.
  • Internet users spend 3x as much time on a Facebook page as they spend on a Google page.
  • Over 700mm pieces of content are uploaded on Facebook daily (eg. 100mm photos daily).
  • Average user spends 55 minutes/day (~23% of total time online) on Facebook, 50% of users log on daily.
  • 67% of US online users are on Facebook.
  • ~70% of Facebook users live outside the US.
  • Among top 36 countries: Facebook’s page view rank is #1 in 4 countries; #2 in 23 countries; #3 in 9 countries.
  • Facebook just received approval for patenting its news feed, the core functionality of its website.

Investment Thesis:

Facebook is already the world’s dominant website

  • However you measure it, Facebook’s global scale and growth are astounding. Of its reported 400+ million users, ~120 million are in the US.That’s 120 million out of ~180 million US internet users (according to Commscore); indicating that about two-thirds of all US internet users are now on Facebook. Facebook says the average user is on Facebook 55 minutes per day, out of a total average of four hours per day of total internet usage by the average US internet user. Those statistics are consistent with recent research based on Compete.com statistics indicating that Facebook now accounts for 25% of total US internet page views and 15% of page views in the UK. As a result of its dramatic surge in uniques and page views, Facebook is now directing more traffic to major portals like Yahoo and MSN than Google through “friendcasting” – the name given to the process of clicking on a link your friends post in their Facebook newsfeed.In this report we want to discuss two implications of Facebook’s dramatic growth.

Facebook has blown by MySpace in social networking and is poised to pass Google in 2010 in directed traffic

  • The world of television presented us with about 10 channels in the 70’s, which grew to 500 channels as digital proliferated in the late 90’s. The internet now brings us hundreds of millions of channels (i.e. websites, Facebook profile pages, blogs, etc.), which we have only been able to navigate with search. Yahoo dominated search in the early days, but they were passed by Google when Google came up with a better algorithm presented in a simpler design. Because they are the dominant search engine, Google emerged in the early part of the last decade as the dominant source of traffic for most sites.
  • MySpace was the early dominant “social network”, but the users weren’t really networked. We had to surf MySpace or hope someone came to our MySpace page to get any real value, and significant technical improvements were glacial.
  • Facebook’s improvements were simple but monumental. They used basic newsfeed technology to enable us to know what our friends are doing, thinking, buying, playing, or posting, simply by going to our own newsfeed.They also opened up their platform to third party developers, who quickly provided the Facebook community with a wide array of incredibly popular applications like Farmville, which has over 80 million players. In fact, Facebook states that there are more then 250 applications that have more then 1 million active users. While many of us used to go to Google to find the latest news, or would surf major or minor news sites to see what was going on in our world, our news and information is increasingly brought to us by friends who post news of interest to them or about them, which appears in our newsfeed. Friendcasting on Facebook will be complimented by Facebook’s increasingly deep integration of Bing’s search tools on Facebook, as well as by other social search applications on Facebook that let us mine the behavior and opinions of our friends. We believe Facebook will pass Google in terms of traffic generation to other websites in 2010.
  • Because we tell Facebook so much about ourselves, and because we spend so much time on Facebook, Facebook knows dramatically more about us than any other website in history, and Facebook’s willingness to share this data makes them an incredibly attractive partner to websites who like user data (which is almost every website). The question now is: how will Facebook leverage its powerful position to generate revenue and profits for their shareholders?

Facebook will be worth over $100 billion

  • Facebook will generate revenue from advertising, both display ads and through increasingly integrated search tools. Microsoft’s Bing, as the search provider on Facebook worldwide, compliments Facebook’s powerful “friendcasting”. Rather than merely offering links, the Bing integration will present more of the features available on the search engine itself. For display advertising, Facebook will increasingly be presenting ad formats that feature social actions. Social integrated ads perform better and provide a better user experience since they are consistent with the context and feel of Facebook. Facebook ads will also be increasingly targeted to people based on the information they provide Facebook. This combination of targeting and social relevance will drive enhanced performance and rates for Facebook display ads.
  • Global internet advertising is poised to grow to $96 billion in 2015 (according to Magna), a 10.5% five year CAGR. Traditionally in media, companies with scale are able to grab outsize share of ad spend. Therefore, as Facebook has the most global scale, its safe to assume that Facebook will attract its fair share of the market. While Facebook is still growing rapidly, we assume in our valuation thesis that they account for only 15% of total internet traffic in 2015. According to Drake Direct, based on Compete.com data, Facebook is already at 15% in the UK, and they are at ~25% in the US. We believe 15% is a conservative view of Facebook’s page view and time spend share in 2015, given its current trajectory. We estimate that Facebook’s 15% share of the global internet audience yields them a 15% share of the global internet advertising market, yielding a forecast of $14.5 billion in advertising revenue in 2015. Today this may seem like an aggressive assumption based on the fact that Facebook currently does not command a comparable CPM to many other websites for their display ads. But Facebook has just really begun to monetize their traffic and weave in targeting and social relevance, and they haven’t even begun monetizing social search. Where Google offers advertisers strong targeting for purchase intent, Facebook is the holy grail of targeted brand advertising, and is posed to make significant headway in search.
  • Facebook Connect is another powerful platform for Facebook to leverage and eventually monetize its user data. Facebook Connect is quickly becoming a de facto registration platform on the net. Currently, over 80,000 sites have already implemented Facebook Connect, including many large sites like CNN. Facebook Connect is emerging as the internet “passport” that enables people to enter any website, as well as interact with their friends who are also on that website. This will likely become another significant revenue platform, as Facebook could potentially harness Facebook Connect to create a leading ad network, leveraging their deep relationships with advertisers and their mountains of user data. For purposes of this analysis, we’ll assume they derive zero revenue from Facebook Connect in 2015. Therefore, in our analysis, investors are getting a free call on this massive business opportunity.
  • Next up, and just as interesting, is Facebook’s recently introduced payment system. Initial testing on Facebook indicates Facebook consumers prefer Facebook’s system to the other payment systems available on Facebook.Facebook is charging a whopping 30% fee to the publishers selling virtual goods (similar to Apple’s 30% take on applications sold on its iPhone platform). The system includes many other benefits for publishers (e.g. preferred placement in the gaming directory, better advertising rates) that only Facebook can provide. Analysts estimate that Facebook’s payment system will grab more then 50% share of payments on Facebook and generate $200 million this year based on projected sales well north of $1 billion in virtual goods in 2010. But payments on Facebook will be just the beginning for the payment system. Facebook Payments is well positioned to take meaningful share from PayPal all over the internet as users will increasingly be using Facebook Connect on ecommerce sites around the net. Paypal is expected to generate $3.3 billion in revenue on a base of 88mm active accounts in 2010. We believe Facebook Payments could grow to a $2 billion dollar business by 2015.
  • Given the simple analysis above, we project Facebook will drive $16.5 billion in revenue in 2015. While this is a big number, it is just over 1/3 of what Google would be projected to generate in 2015 if Google grew revenue at a 12% CAGR (about ½ it’s recent revenue CAGR of 20%). For ease, we assume Facebook achieves the same 35% EBITDA margin as Google is currently experiencing. Let’s similarly assume that Facebook, as a public company, would be valued using the same EBITDA multiple as Google is valued at today, which is 18X 2009 EBITDA. The math above implies a value of $103 billion based on 2015 projections.

Facebook is worth $50 billion today

  • If we discount $103 billion back by 15% per year, we get a price target of $51 billion today. This implies a value that is more than two-and-a-half times the $19 billion value Facebook shares are currently trading at on secondary private marketplaces. The table below looks at how our valuation would vary depending on various multiples and discount rates. Even at a 21% discount rate, Facebook would be worth more than 2x the current share price.

 

  • Another way to value Facebook helps put our target in to perspective. Based on current membership levels, we are valuing Facebook at $125 a member.If Facebook were valued on an 18X multiple of EBITDA today, that implies that Facebook has the power to generate $7 in EBITDA on average off its members, or $20 on average per member in revenue (assuming 35% margins). Neither number appears a stretch. Amazon earns $15/user in EBITDA, Google currently earns $20/user, and EBAY earns $34/user. We recognize these companies all have different business models, but we think it is helpful to put some context around our $7 EBITDA per Facebook user projection.
  • Is a 15% discount rate too low given that we’ve seen other social networks appear and then fade, most recently MySpace? We’ve seen other internet leaders founder – is Facebook like Yahoo? Is it possible Facebook is just a fad, as some argue? Our thesis is that Facebook is already deeply ingrained in our daily lives, and this is just the beginning. There are many reasons why the switching costs are significant, and Facebook keeps adding new ones – most recently Facebook was granted a patent on “the feed”, a core feature of Facebook’s functionality. Facebook is averaging over 100 million photos uploaded per day. People don’t like to leave those behind. With an average of 130 friends per user, almost everyone has many connections that only exist on Facebook. The average person is a member of 13 groups. As we increasingly move to mobile, we are bringing Facebook with us. The Facebook iPhone app has been downloaded by over 28 million people. In addition, every wireless operator is advertising the availability of Facebook apps on their phones.
  • Maybe our estimates are too conservative? 15% share of online ad revenue and 35% operating margins could prove too low. The data table below shows that each 1 percentage point of share of the online ad market for Facebook is worth $3 billion present value at a 35% margin. With 30% reach of global internet usage today, it is conceivable that Facebook ad share could be well over 15%.

Facebook shares are available for accredited investors to buy and sell, and the current value is $19 billion

  • There is a secondary private market for Facebook shares on sites like Sharepost.com and SecondMarket.com that make markets in shares of dozens of private firms, enabling employees to monetize some of their options.
  • After proving you’re an accredited investor, the transaction is papered, with the seller paying transaction costs.
  • While Facebook enables employees to sell their shares, the buyers of these common shares are prohibited from subsequently trading their shares until Facebook goes public or is acquired.
  • Right now, shares are being offered at $36-$38 per share, implying a market cap of $19 billion.

Catalysts:

  • With only $600 million in rumored revenue in 2009, Facebook has done little to monetize its vast reach. As Facebook revenue generating initiatives start to scale, private market values should increase.
  • When the company goes public, the liquidity discount will evaporate and prices will rise to fair value.

Risks:

  • Shares bought in the secondary private market are not liquid and do not entitle the owner to the information usually provided by public companies to their investors.
  • Another competitor could arise and take market share from Facebook. In fact, to the degree that Facebook attracts 15%+ of all internet time, every other website on average is generating 15% less traffic. So it’s easy to imagine other sites working together to try and thwart Facebook. But like Google, other websites will increasingly see Facebook as a “frenemy”, a strong competitor for the mindshare of internet users but also a driver of massive traffic.
  • Facebook either may not be capable of or may not be concerned with generating massive revenue or going public. This is unlikely since history has shown that once eyeballs are assembled, advertising and other monetization opportunities present themselves. Some people thought no one would advertise on MySpace, and they were proven wrong. And Facebook is far more advertising friendly than MySpace as pages are much less free form. While a few companies (most notably CraigsList) appear uninterested in maximizing revenue, Facebook’s significant VC investors will help drive both monetization and an eventual liquidity event. In addition, like Google, Facebook will need to generate cash to help finance its increasing spend on R&D to drive innovation.
  • Privacy remains a significant concern of internet users globally, and with all the data Facebook aggregates and make available, they are walking a fine line. Facebook has clearly had some missteps in the past, most notably its Beacon information sharing product in 2007 that caused an outcry from privacy groups. They have also had technical glitches, one as recent as last week where messages were misrouted. As a result of these lapses, Facebook is acutely aware of the privacy issue and they appear to be thoughtful in their approach. Google also struggles with privacy, as evidenced by their recent bungling of the introduction of Google Buzz.
  • Given Facebook’s increasing stranglehold on internet usage, governments in the U.S. and elsewhere could step in and, in some way, break up the near natural monopoly on social networking that Facebook will have.

Lou Kerner currently runs a portfolio of parked domain names and is COO of Gamers Media, an ad network for online casual gaming sites. Lou has a BA in Economics from UCLA and an MBA from Stanford University. This article is reprinted from a research report published yesterday on the research site track.com, a subscription site featuring the work of ex-Wall Street analysts.  Mr. Kerner’s personal website can be found at http://loukerner.tumblr.com/.