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Facebook’s (FB) talks with Whatsapp for a potential acquisition may just be rumors, but given the buzz around it, it is important to look at the business and financial reality if such an acquisition was indeed on the cards. Adding Whatsapp to its assets will allow Facebook to further diversify its revenue stream and reduce its dependence on advertisements. But will this diversification be significant? Why does Facebook even need to diversify away from ads when it’s doing so well in that? What is the broader strategy? Let’s answer these questions.
See our complete analysis for Facebook

How Big Is Whatsapp For Facebook Financially?

Google (GOOG) mentions that Whatsapp has more than 100 million downloads on Android. [1] Add to this users from Apple’s (AAPL) iOS and RIMM’s (RIMM) Blackberry, and we could have potentially 100 to 200 million+ active users, not just registered ones. This gives us an insight into how much money Whatsapp might be making. Given that iOS users have to pay a one-time fee ($0.99), and for other platforms the app is available for free for the first year followed by an additional year of service for $0.99, Whatsapp may be earning somewhere in the neighborhood of $100 million annually. Comparing this to our estimated $5 billion revenues for Facebook for 2012, it seems like a drop in the bucket. However, there is potential to grow these revenues further as smartphone sales climb. Given the good utility of this app, there is also an opportunity to increase the pricing or eliminate the free first year usage, thus growing revenues.

Why Would Facebook Want This Financial Diversification?

Facebook’s users are increasingly accessing the social network on mobile devices where there is not much real estate to put ads. Any attempt to significantly increase the ads on the mobile platform will affect the user experience negatively. Keeping this in mind, we forecast very low growth in revenue per 1,000 page views. We expect this figure to increase from close to 29 cents in 2011 to 35 cents by the end of our forecast period.

However, there is a chance that Facebook’s efforts to effectively monetize the mobile platform fail and growth in international markets further puts downward pressure on the monetization levels. If these factors actually push the monetization down to 20 cents per 1,000 page views by the end of our forecast period, there could be 40% downside to our price estimate for Facebook. We have already incorporated lofty expectations for mobile growth in our forecasts for total user base and page views per user.

Therefore, to effectively monetize the mobile platform, just relying on advertisements may not be enough. Additional revenue channels such as virtual gifts, social commerce, etc., are likely to be more successful. Whatsapp falls in a similar category as it is ad-free and charges the users for its usage.

What Is The Broader Strategy?

It appears that Facebook wants to acquire anything that has a huge, sticky user base. Its $1 billion acquisition of Instagram says it all. Instagram wasn’t making much money, yet Facebook saw immense value in its service and platform. Facebook has also struggled with its messenger and Whatsapp could be the answer to that. Ultimately, the company wants to reach every user possible, especially in the mobile space where future growth lies. It can then leverage this user base to make more money via ads, virtual goods, social commerce, etc.

Our price estimate for Facebook stands at $25, implying a discount of more than 5% to the market price.

Notes:

  1. Google Play App Information

Disclosure: No positions

Source: Why Facebook May Be Thinking Of Buying Whatsapp