The internet has opened up a wonderful opportunity for technology entrepreneurs because they face no international barriers, have no working capital requirements and are not dependent on indigenous raw materials.
Trade Me is a good example of this in New Zealand.
The requirements for a successful internet-based company are an attractive product, vision, drive, capital and a slice of good luck.
Diligent Board Book Services and Xero are two smaller NZX-listed companies trying to make it in the internet or SaaS (software as a service) space. They have a different business model from Facebook as they charge for their service whereas Facebook and Google rely on advertising.
Facebook is a giant with 845 million monthly active users (MAUs), Trade Me has 2,910,000 active members, Xero has 60,000 paying customers and Diligent has 1026 clients. The last two are relatively small but there are big opportunities for sector specialists in the SaaS space.
Facebook is expected to have a sharemarket value between US$75 billion ($90 billion) and US$100 billion ($120 billion) when it lists. This will place it between 20th and 30th place in terms of the largest listed US companies. By comparison the total value of all NZX-listed companies is only $57 billion.
It would be great to see an internet or SaaS based company in the largest 10 listed NZX companies list as this would attract younger investors to the sharemarket and encourage entrepreneurs to focus on this sector.
With this in mind it is disappointing that Auckland based Optimizer HQ recently listed on the Frankfurt Stock Exchange instead of the NZX.
Mark Zuckerberg started Facebook at Harvard University in July 2004 under the name thefacebook.com.
The company's growth has been phenomenal and at the end of 2011 it had 845 million MAUs with 179 million in the United States & Canada, 229 million in Europe, 212 million in Asia and 225 million in the Rest of the World.
There are more than 2 billion global internet users and Facebook aims to connect to all of these.
Its penetration of internet users is estimated at more than 80 per cent in Chile, Turkey and Venezuela, approximately 60 per cent in the United Kingdom and United States and between 20 per cent and 30 per cent in Brazil, Germany and India.
The penetration rate is less than 15 per cent in Japan, Russia and South Korea while it is near 0 per cent in China because of restricted access.
New Zealand has 2,100,000 Facebook users for an online penetration rate of 62.5 per cent. This compares with Trade Me's 2,910,000 active users and an 86.6 per cent penetration rate. Our Facebook statistics are in line with Australia which has 10,703,000 users for a 62.8 per cent penetration rate.
Zuckerberg's strategy has been to grow Facebook as fast as possible.
He has also been able to maintain control of the company through his 28.2 per cent shareholding and a proxy over other shares that gives him control over 57.1 per cent of the voting capital. He has more control over the company than Bill Gates had over Microsoft when it listed in 1986.
The IPO will consist of the sale of US$5 billion worth of shares, mostly from existing shareholders.
Zuckerberg has delayed a stock exchange listing for as long as possible because he didn't want to be answerable to outside shareholders and wished to avoid the regulatory requirements of a listed company and quarterly reporting.
However the company had made commitments to early investors that it would list and it also needed to establish a market for staff who wished to sell some of their holdings.
The prospectus revealed that Facebook had net earnings of US$1 billion for the December 2011 year on revenue of US$3.71 billion. This compares with a net profit of US$600 million for the previous year and US$200 million in 2009.
The US$3.71 billion December 2011 year revenue consisted of US$3.15 billion from advertising and the remaining US$560 million from payments and other fees revenue.
There are no prospectus forecasts but investors are expected to value Facebook between US$75 billion and US$100 billion giving it a price/earnings ratio between 75 and 100 based on December 2011 year earnings.
There will be huge interest in the Facebook IPO because of the company's global reach. Successful social media companies are also attractive because they have huge influence and power and have replaced the newspaper barons and television moguls of earlier years.
The internet offers great opportunities but it is also highly competitive with a huge attrition rate.
MySpace, which was much bigger than Facebook six years ago, was acquired by News Corp for US$580 million in 2005. Facebook passed MySpace in 2008 in terms of users and the latter was sold by News Corp to Special Media and Justin Timberlake for just US$35 million last year. Bebo, which had a strong teenage following, was bought by AOL for US$850 million in 2008 and was sold for just US$10 million two years later.
By comparison Yahoo offered Sam Morgan $1 million for Trade Me in 2002 and Telecom showed interest at $50 million a few years later. The company was eventually sold to Fairfax Media for $750 million in 2006 and is now worth $1.2 billion on the NZX.
The accompanying table contains a list of a number of other well-known technology companies that have had their ups and downs.
RIM (Research in Motion), the BlackBerry developer, is a former highflyer that has crashed to ground in recent months.
RIM reported net earnings of US$3.4 billion for the February 2011 year but it has been all downhill since then. The company had a profit of US$1.3 billion for the first nine months of the February 2012 year compared with US$2.5 billion for the same period.
RIM's product development has been poor, it has been hammered by Apple and there have been major management changes.
Meanwhile Apple has gone from strength to strength and it is now the most valuable global listed company. It passed Microsoft last year when it reported net earnings of US$25.9 billion for the September 2011 year.
Subsequently it has had net earnings of US$13.1 billion for the first quarter of the September 2012 year compared with US$6 billion for the same period last year. By contrast Microsoft had flat net earnings of US$6.6 billion for its latest quarter.
A number of analysts are speculating that Apple will be the first US$1000 billion listed company.
Meanwhile Google is clearly winning the battle of the search engines with Yahoo. The latter reported reduced earnings for the December 2011 year on revenue of US$5 billion while Google had a US$1.2 billion net earnings uplift on revenue of US$37.9 billion (see table).
The internet is an exciting and dynamic space but investors should never forget that it is highly competitive and no company is guaranteed long-term domination of its area of operation.
Disclosure of interests: Brian Gaynor is an Executive Director of Milford Asset Management which holds shares in Diligent Board Member Services, Trade Me and Xero on behalf of clients.
