October 24th, 2007
Microsoft Bets On Facebook Stake And Web Ad Boom
By Robert A. Guth, Vauhini Vara, and Kevin J. Delaney
Wall Street Journal
Microsoft Corp.’s $240 million investment in Facebook Inc.—a three-year-old company with more promise than profit—represents a huge bet that the online advertising boom will continue and the popular social networking site will be among the biggest beneficiaries.
The software giant said yesterday that it will buy a 1.6% stake in Facebook, beating out Google Inc. after intense lobbying. The deal places a $15 billion valuation on the closely held Palo Alto, Calif., start-up. Facebook, which runs a site where people set up personal Web pages, expects to break even this year, on a cash-flow basis, with revenue of $150 million, according to people familiar with the company.
The high valuation for Facebook is the latest sign of a renewed exuberance in Silicon Valley over Internet companies with lots of users—even if those users haven’t yet translated into much revenue—and is reminiscent of the Internet bubble that ended in 2000. Microsoft and Facebook say the valuation is justified and that Facebook is starting to find ways to monetize its rapidly growing user base.
“We’re pleased with the economics of this deal,” said Kevin Johnson, president of platform and services at Microsoft, adding that Microsoft and Facebook have “both learned a lot” from their experience with Facebook ads.
The deal is rooted in an online-advertising boom that has turned Facebook into the newest Internet darling. In recent years, advertisers large and small that once focused their spending on television, newspapers and other traditional media have started shifting their spending to a host of Web sites. Google has built its fortunes on that shift and others including Microsoft are rushing in.
Facebook presents a big opportunity for online advertising, in part because it collects detailed information about its users—such as their hobbies, favorite music, location, age, and gender—that can be used to place highly targeted ads.
Behind the deal are also concerns at Microsoft that social-networking sites like Facebook might one day become the central window consumers use to access the Web.
Facebook was started by Mark Zuckerberg when he was a student at Harvard University; he is now CEO. Like other social networking services including News Corp.’s MySpace, Facebook began by offering simple Web pages used mostly by young people to list information about themselves and send messages to their friends. But the services are gaining broader popularity, with some people using them as replacements for online services like email. The sites are also adding other Internet services that have historically existed independently; Microsoft, for instance, has its own instant-messaging and online music services. The deal gives Microsoft a window into Facebook as it expands such services.
Facebook sells ads on its own and also struck a deal last year that allows Microsoft to broker display ads on Facebook’s U.S. site until 2011. In addition, Facebook and MySpace are opening non-English-language versions of their sites. Facebook is planning to do so in the coming months, probably starting in Europe.
But the online-advertising market is less mature and more fragmented abroad than it is in the U.S. In 2007, advertisers are expected to spend $900 million advertising on social-networking sites in the U.S., compared with $335 million on such sites abroad, according to research firm eMarketer Inc. In planning its global expansion, Facebook initially worried about how it would make money outside of the U.S., say people familiar with the matter.
As part of yesterday’s agreement, which lasts through 2011, Microsoft will sell advertisements on international versions of the Facebook service. Microsoft in recent years has built up a large online advertising sales force and has invested in technologies to broker advertising over the Web.
The cash injection from Microsoft will also give Facebook funds to invest in new services, buy equipment, make acquisitions and hire engineers. Facebook in coming weeks plans to unveil a new advertising system of its own that will let advertisers visit an automated Web site to place targeted ads on Facebook and elsewhere on the Web, say people familiar with the matter. Meanwhile, Facebook’s Mr. Zuckerberg has said he plans to expand from more than 300 employees today to about 700 employees a year from now.
Winning Facebook’s hand could help lift morale at Microsoft’s struggling online business. Over the past four years the software giant has invested heavily into building its own Internet search and online advertising services but has failed to keep pace with the growing online ad market and its leader Google.
Microsoft fought hard and lost to Google a string of deals with companies including Time Warner Inc.’s AOL unit and DoubleClick Inc., which Google earlier this year agreed to buy for $3.1 billion. Those losses and the steady growth of Google’s share of online advertising have irked Microsoft Chief Executive Steve Ballmer, say people familiar with the company.
As a result, Microsoft scrambled to keep Facebook from falling into Google’s hands. In recent weeks Mr. Ballmer personally courted Facebook’s Mr. Zuckerberg, meeting in Silicon Valley to press Microsoft’s interest in the young company.
On his visits to Facebook, Mr. Ballmer tried to be discreet: last Wednesday he negotiated with Mr. Zuckerberg in a private dinner at the home of Owen Van Natta, Facebook’s chief revenue officer, said someone familiar with the situation. However, after the meal, at a nearby Starbucks, a customer noticed Mr. Ballmer, called out his name and snapped a picture of himself with the Microsoft head, said the person familiar with the exchange. Mr. Ballmer was worried that the photo could be used to show he was in Silicon Valley negotiating with Facebook.
Microsoft’s discussions continued Thursday night in San Francisco. Still Google as recently as Friday seemed to be close to winning Facebook, say people familiar with the matter. Over the past few days and in a meeting that ran late last night, Microsoft clinched the deal.
Yesterday Google Vice President Tim Armstrong declined to comment on any Google discussions with Facebook. “We have tremendous respect for them as a company,” he said during Google’s analyst day at the company’s Mountain View, Calif., headquarters.