Peter Thiel exclusive: Facebook, the classic growth vs. value story

Yeah f*cking right! $15B. Wtf! I've admitted in the past that I have a love/hate relationship with fb, but I might have to just throw in the towel and retire. I haven't been blogging long, but it seems like ages ago when I first blogged about the zuckster being idiotic for not selling @ $1B. Then, it was a $2B valuation and I thought......that's just being damn greedy. A couple months back microsoft rumors resurfaced and the valuation went up to $10B. I knew that could never happen especially given Ballmer's fad comments. Low and behold msft bit the bait and so did two hedge funds. $740M for less than 5 percent of the company. I guess fb will go public and everyone will be happy.

So coincidentally, I had the pleasure of attending the MIT Sloan Club of NY's Annual Hedge Fund Dinner. One of the guest speakers happened to be the Peter Thiel. Most of the conversations that night revolved around the current climate of valuations. Peter gave us his take on the 3 bubbles (housing, credit lending, emerging markets) that we are currently facing and he believed that globalization (or the expectation of globalization) may be the root cause behind every boom, bubble, or bust.

We all listened intently....trying to glean some type of "free" tidbit from the over achieving entrepreneur turned hedge fund guru. After his 30 minute talk, we had about 5 minutes of Q&A. The first 3 questions were basic questions that could be answered reading any macro textbook...............then came the final question from the wild gunslinger. My question to Peter:

"Peter, given the context of tonight's discussions, where do you see the recent facebook investment by microsoft and 2 hedge funds at a $15B valuation?" - whooknew

Before he could start to answer the question, Peter began with a diatribe of disclosures starting with he's on fb board, was an early investor, believes in the company's long term plan, blah blah blah blah.

He went on to say that Facebook is "the classic growth vs. value story." He contends the $15B was absolutely justifiable in the current climate. Now........I'm not mad at Peter. Why would he ever say anything different? It would be suicide (and stupid) for him to to question the valuation. He is on the board and has a lot riding on his own farabuttos.

The funny thing is........after listening to Peter recount the history of markets, mobs and mayhem (and I mean history), he had the nerve to look us in the face (a room full of pretty smart people) and say NO, we are not in a tech bubble. GTFOH. Here are his three reasons.

1. Prospect Theory. (I don't recall him using the term, but I've taken the liberty to interpret what he was trying to say.) Basically, people value gains and losses differently. He recalled some study that says we feel loss much more than gain......almost 3 to 1. Peter contends that the 2000 bubble is still fresh on the brain and people have not forgotten the pain. Since investors lost so much money with the last tech bubble, they would need to make 3 times the money they lost in order to get to a new irrational state. (These are not his exact words, but my understanding of his words.)

2. No tech ipos. During the late 1990's, the way to monetize a tech investment was through an IPO. There were a number of entrepreneurs who made their fortune after going public. Peter contends the absence of tech IPOs is an indicator that we are not in a speculative tech bubble.

3. HBS grads are not in tech. In the late 1990's HBS grads were going into startups. From 2005 to date, HBS grads have been flocking to private equity and hedge funds. Since HBS grads have not gone into startups yet, we are not in a tech bubble. (This was somewhat of a joke, but I believe the metaphor is plausible.)

After this third point........I sat patiently.......waiting, hoping, praying for some insight........ I would still be sitting at the Tribeca Grand Hotel right now if I continued to wait for some reasonable explanation.

IMHO, #1 is purely wishful thinking. I could counter his application of Prospect Theory with Sunk Cost Fallacy. We can't say that because people lost money in 2000 and haven't made 3x the amount lost, we are not in a bubble. Read #1 again. Seriously, this just sounds asinine. I could argue that given the current level of capital raises, people are placing more bets on tech companies now. Granted it takes less money to start a company, but startups are raising more money at higher valuations. Sounds like doubling down to me.

#2 just sounds good. I can't really agree or disagree. People have been waiting for the tech ipo window for awhile. Here's a current status check. Here is some research on IPOs (from April 2007). Wall Street fiascos and Sarbanes-Oxley have to be addressed as well. Why would you want to IPO when you could be acquired, get paid in cash, and not have to deal with all the extra reporting/disclosures. Let's not forget going across the pond.

# 3 is probably the most palpable. If you replace "HBS grads" with "seemingly informed herds," one could agree with Peter. By the time people realize something is good, it's time to get out. Next time we go to MIT to recruit, I'll stop by HBS and take a poll on where people are going after graduation. Hopefully it's still PE and hedge funds.

Honestly, the most disconcerting thing for me was not Peter's response. That's his story and he's sticking to it. I'm not mad at him. For me the problem is the 30 minutes prior to my question. He cautioned the audience to move out of investments that are levered and suggested not investing in popular, crowded ideas. I guess fb is an anomaly and social networking is not a popular, crowed space. I guess fb is profitable and not leveraging current growth with future cash flows. I'll just stop here and let the numbers speak for themselves.

So is fb worth $15B? It doesn't matter what I think. msft paid that much.........so it has to be worth $15B. The real question was...........are we in a bubble?

------------------ Extra

What was Peter's take on yoonew?

Why did it take you so long to build a futures market for tickets?
Why would you try to build a startup in nyc?

I'll respond in a future post.

Is Facebook worth $15B?

Here are the BBC's 15 reasons why Microsoft may think Fb is worth $15B.

Good try. I think JohnM hit the nail on the head! Thanks John for your honesty.

#16 JohnM

October 25th, 2007 at 9:32 am

Microsoft is LEASING Facebook for the next 4 years. Facebook is not worth $15B, Microsoft is leasing an advertising distribution system. The equity ownership is so small as to become almost immaterial.

Of course, Facebook will now attempt an IPO northwards of $15B, saying that Microsoft already set the valuation floor. Of course this assumes all the lawsuits regarding ownership are settled.

If the company does go public, what the myopic public should realize is that they are not buying the advertising deal, along with shares. Only Microsoft gets that. Don’t be fooled, Ballmer cut a better deal than the public will ever get. Microsoft is NOT valuing Facebook at $15B. No, no, no. Microsoft is valuing a potentially lucrative advertising distribution deal and a small percentage of Facebook at $240MM.

The public are sheep though, so I imagine Facebook will line-up the investment banking sheperds to take them out at $20B+. Baaaahhhhh.

Now why might hedge funds get involved? Because the bump-up in valuation will go from 15B to $20B on an IPO. Nice % increase for a holding period of likely only a few quarters.

But keep in mind, it’s the investing public (proxied through mutual fund managers, etc.) who will pay the price for all of this. Feels like 2000 all over again. Great move for Facebook, probably a smart move for Microsoft, and probably a smart move for the hedge funds. But remember, this is a game of musical chairs. And as usual it is often the naive public investor left standing.

Did you hear that? Musical chairs! John, holla at me.

Requiem for a Pistol (to shoot MSFT in the helmet)

"Why did Live have to f*ck with my Halo?"

Is it any wonder why MSFT is losing the gaming battle? Why would you alienate your lead users? The people who test your product before the general public gets upset with bugs. The people who push your technology to the limit and help you build a better product? The people who spread the gospel to the world (FREE of CHARGE)?

I can understand employing the regimented approach with their bread and butter corporate community....you know....word, excel, power point, and all the other tools "required" for corporate productivity. But an XBOX? How the hell can Microsoft beat Sony with superb business decisions like this?


Joe Gamer: "You are RUINING THE LITTLE RESPECT YOU HAVE LEFT!"

Rule number 1: The gaming market is not the corporate productivity software market. Don't fight the gamer!

Like most diehard gamers I was one of the first guys on the original Xbox band wagon. I opened the box and played the only game that came with my console, Halo. At that exact moment, I was a true Xbox believer. I never bought another game for the first 2 years and played Halo until my eyes were bloodshot red. It was a problem...(or so my therapist said). If you've never played the original Halo, you've not a gamer..matter of fact....you've never played a video game.

Halo completely revolutionized the gaming market!
(Microsoft even bought Bungie because of this one game's success!)

The game was so enthralling.....we had to play more often, we had to play better people, we had to play online. However, MSFT did not support playing online. So what did we do.....we modded our xbox with chameleon chips and connected our boxes manually. This was before Gamespy or any other peer to peer gaming site. No slick user interface, not maps, not chat, you had to connect your xbox to your pc and use a linux boot-up disc to find other IPs that wanted to join your game. To "chat" you had to use another PC to find gamers/hosts on ICQ before you booted up the game. (Shout out to the Motley's, J and X! First on the block to make it happen.)

Now that I think about it, it was quite archaic, but it worked. We were playing Hang 'em High with people from all over the world. Even with the lag and hosting advantage (early Halo players know what I'm talking about) it was a revolutionary experience. I was playing a game at home...on a console...connected to the internet...talking $hit to some guys in Canada!

The community that evolved was ridiculous. Clans were forming, challenges were made, and LAN parties were popping up all over. People were doing ridiculous things in the games....things the game designers never even knew were possible. It was a great time for Xbox's penetration into the PlayStation market share. People were not buying Xbox for Xbox, we all wanted to play Halo!

All of the early Xbox innovations came from gamers taking the Xbox to the limit. Adding a hard drive, adding software to manage files, creating a multi media player, making it wireless.....all this stuff was out before MSFT even thought about building it. How could that be? You can't fight the gamer! Instead of fighting, MSFT should embrace innovation and let people build the product/games they want.

So what does MSFT do. They "steal" all of the innovation from "hackers" and incorporate it into the new and improved Xbox 360. The 360 launch was combined with the release of Halo 2. Boy was I was ready! I had my eBay auction ready (no time to stand in line) and paid ~$750 to be the first to play Halo 2. What a disappointment!

Not only did they kill the game with the bs maps and weapons (no more pistol shots); they completely bastardized the Live experience by commercializing some functionality and removing others. On top of that, MSFT was telling me that I had to PAY to play with other people. GTFOH! I just paid 2x retail for the game and console, I pay $150/month for high-speed internet and MSFT wants me to pay for Live! That's like AOL trying to get me to pay for a inferior browser. Ha!

I have not played my Xbox 360 since.

Why all this background info? It's simple. MSFT had the best thing going for them. Huge penetration into Sony's market, great staple game in Halo, avid die-hard gamers, and a great user generated road map for success. By abandoning the early adopters, MSFT managed to destroy most of the value that was was created......in record time.

Don't take my word for it. Ask any "former" Halo player what they think of MSFT and Xbox Live now?

Microsoft may have dropped the ball in gaming.....good thing they are dominating Google and others on the search front, the ad front, the web application front, the recruiting front, the video front, the social networking front, the it's cool to be a geek front, the wall street growth story front.........help! I'm running out of fronts....Ha!

Just watch this video and Halo-Union will rap to you why Xbox Live is dead. (Lyrics!)