WhatsApp is a prized acquisition for Facebook

Last year, a friend had gone to Rajkot, Gujarat, and was looking for a hotel to stay. He found one on the internet and called them up. After they spoke, the hotel owner shared photos of the rooms over WhatsApp, convincing my friend to stay there. I also know a hair salon owner in Bangalore who sends discount offers to her customers on WhatsApp. Teenagers use it all the time to chat with friends, and now grownups are on it too, without embarrassing the teenagers in the process.

WhatsApp is focused on messaging on the existing social network you already have in the form of your phone book. It doesn’t give activity feeds, birthday reminders, ads – anything that would distract from the user’s immediate need to message someone he/she already knows. Or as WhatsApp founders promise – no games, no ads, no gimmicks. The messaging is secure and private, whether it is one-to-one or increasingly, between groups. Its focus on making revenues from a nominal annual subscription has set it apart from competition like WeChat, which is ad driven.

Text messaging has been an under-invested and underappreciated space in the past. The SMS almost came to life as an unexpected by-product of designing mobile phone voice communication. It has proved to be one of the most profitable segments for telephone companies. However, over the last two years, messaging via apps is eating away into billions of dollars of text messaging revenue. 

You might have noticed the huge drop in SMSes this New Year’s on your own phone. Blackberry missed a trick here when it failed to notice in time how BBM (Blackberry Messenger) was driving huge sales amongst Asian teenagers, and continued to focus on corporate users. Finally, they woke up and unbundled the BBM from their devices. But this late realisation has allowed new start-ups like WhatsApp to leave the incumbents far behind.

Messaging is also deceptively simple to engineer, resulting in companies not spending enough on innovation and experience. As a focused start-up, WhatsApp has got many things right. Its use of Erlang, a language developed at Ericsson to design fault-tolerant telecom systems, is a good illustration of a team choosing the right tools for the right job. 

When messaging is developed as an additional feature in other large systems, no one has the luxury to think of this problem from the ground up, and has to comply with existing technical and functional choices (Gtalk, for example, has become a Gmail sidekick). The other excellent focus of WhatsApp is covering as many devices and platforms as possible – from expensive smartphones to the cheaper Nokia. Apple’s iMessage totally loses out in this respect.

The key talk of the town is of course the $19 billion valuation. WhatsApp maybe good and growing explosively fast, but is it really worth so much? The last word here belongs to Prof Aswath Damodaran whose latest blog post explains it clearly.

First, $15 billion are being paid in Facebook stocks, so if the market is overvaluing social media companies, Facebook is paying the majority of the money in the same overvalued currency – its stock. Second, the market today values users and user engagement more than any other metric, and WhatsApp scores very well on these. Third, if you are a value investor focused on fundamentals, such as cash flow and real revenue, don’t sell Facebook short, for you may be bankrupt long before you are proven right.

WhatsApp’s revenue model is also an interesting diversification for Facebook. Its ad-driven monetisation has a huge geographic divide, with monetisation from non-US markets being much lower. The growth in user base is going to be more in the emerging markets, creating a classic 80-20 (20% of the users contributing to 80% of the revenue). WhatsApp is more flat in its revenue distribution. It has a price point (60 odd rupees per annum) that will make sure emerging market users will be as valuable. As mobile penetration keeps increasing in this part of the world, low-end smartphone users can form a huge revenue base for WhatsApp.

Facebook’s two latest, major acquisitions – Instagram and WhatsApp – are both mobile plays and compensate for its own failure to adjust to that new medium. It has also sensibly left both of them alone rather than merge them into the main product line. With the social media and technology landscape changing so rapidly, Facebook has to make such bold acquisitions to keep the pole position. Google was also vying for WhatsApp and could have created a major competitor. It is indeed a prized catch for Facebook.

Saurabh Chandra is a Bangalore-based tech entrepreneur with an interest in public policy. You can follow his tweets on @saurabhchandra.