Russian Investment Offer Proof Of Facebook's Desperation?

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As with all things Facebook, yesterday’s WSJ story about a $200 million offer from a Russian firm at a $10 billion valuation triggered a violent debate.

Some saw it was a sign of the company’s desperation:

“Scraping the bottom of the barrel…SURE they don’t need the money…” texted one former insider.

Others saw it as confirmation that the company doesn’t need the money, per se, but wants to continue to focus on growing its user base rather than generating revenue and is therefore happy to take it.

We’re in the latter camp. We believe Facebook could be profitable tomorrow, taking the MySpace approach and skinning their site for next weekend’s big movie release. But Mark Zuckerberg doesn’t want to do that, and so right now Facebook is experimenting, trying to find other ways to make money. Long term plans include an ad network and a payments platform. This money is about buying more time for those plans to develop.

With 225 monthly active users, we think Facebook is now underhyped–and the $10 billion valuation story suggests that others agree. 

As to whether dealing with a Russian investment firm is “scraping the bottom of the barrel,” all money is green.  The key, though, is the terms of the investment.  Buying preferred stock is not like buying common stock.  Preferred shareholders get to negotiate all sorts of potentially sweet terms that affect things like guaranteed rate of return, liquidation preference (who gets their money back first), dividends, and control.  In Facebook’s case, one key term will be how the new preferred shareholders are treated relative to Microsoft, which invested at a much higher valuation.  These terms can actually be much more important than the raw valuation numbers. 

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In other words, the Russian firm, DST, may be offering to pay a generous valuation in exchange for onerous terms, or it may be paying up on weak terms just because it’s really hot for Facebook.  Those details haven’t been released yet, and probably won’t be.

In any event, here’s what we think was really going on with that WSJ story.  We suspect Facebook leaked the details to Jessica Vascellaro in order to send a message to other investors that might be considering investing in Facebook.

What message?  “Hey, guys, we’ve got a great offer and we’re thinking of taking it (but we haven’t yet!), so get those calculators out and put your best deal on the table.”

Remember a few weeks back, there were reportedly several big US private equity firms interested in investing in Facebook, but at a far lower valuation.  These firms may still be conceptually interested.  Since Facebook has also talked to potential investors all over the globe, the firm is likely using the WSJ to send a message to everyone on the fence.

As smart as they may be as individuals, professional investors are, deep down, herd animals–private-equity firms included.  Nothing gets them more hot and bothered about a potential investment than hearing that other smart people are hot and bothered, too.  DST may not qualify as “smart,” but the WSJ story does suggest that Facebook has other options.  And that can often get Big Investors off their butts, too.

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