Relying on a community to perform tasks for you: Crowdsourcing

By Xavier Forneris

Innovation can not be reduced to hardcore R&D. Developing a new way of doing business, of procuring or delivering a product or service, is a valuable form of innovation, even though no patent is filed. A very interesting innovation in the private sector is the utilization of “the masses”, meaning people like you and I, multiplied by millions. I am referring to the “crowdsourcing” concept.

What it is

For Jeff Howe, who coined the term in a 2006 Wired magazine article (see reference at the end of my post), crowdsourcing is simply:

The act of outsourcing tasks traditionally performed by an employee or contractor, to an undefined, large group of people or community (a “crowd”), through an open call

The community is the “crowd”; the open call is more often than not made on the web, by posting requests on the internet. We can say that crowdsourcing is a variation, an evolution of the well-known “outsourcing” concept. But outsourcing is so last century. Crowdsourcing is the latest thing…or is it?

How new is it?

Although the term only appeared in 2006, a reporter for memebern.com named Stuart Thomas went back to the history books and found that this “new” concept is actually quite old. I hope Stuart will not mind that I use two of the examples he’s providing, which I loved. In 1714 the British government made an open call to the public and offered a cash prize to anyone who could offer a simple and practical method for determining with precision a ship’s longitude. Under Napoleon I, the French government offered a cash prize to anyone who could devise a cheap and effective method of preserving large amounts of food. Of course Napoleon was concerned about a special kind of “food security”: he wanted to make sure that soldiers of the Empire waging war in far away lands would have ample and safe food supply. There are more examples in Stuart’s article, which I really recommend reading if you are interested in the subject (and want to know whether these two historical crowdsourcing initiatives led to any innovation). The point here is that “crowdsourcing” is not as new as some would like you to believe. But the web has been a tremendous enabler…once more I would say. It allows to reach a broader audience and therefore to more efficiently and effectively publicize and then manage the crowdsourced projects.

Who is using crowdsourcing?

You may think that the strategy is mostly used by non-profits and small firms or individual business owners and other start-ups in an effort to cut costs. Sure, but not only. In fact “everybody and their brother-in-law is doing it”. Let me give a few examples:

According to Stuart Thomas (Memebern, Sept. 15, 2011), Iceland is crowdsourcing its new constitution while Microsoft is crowdsourcing aspects of Windows 8. These entities are not exactly your typical feldgling start-up or NGO.

Artists and writers are doing it: best-selling author James Patterson invited members of the public to write 28 of the 30 chapters of his book, AirBorne. That’s crowd-writing. Another example is Wikipedia. What is it if not an encyclopedia written by the masses?

Local governments are doing it: the city of Salt Lake City has been using crowdsourcing for transit planning.

Even scientists are doing it: an astronomy project (Galaxy Zoo, 2007) relied on 150,000 stargazers to classify millions of pictures of galaxies. The task is not complicated but it would have taken several lifetimes to the members of the research team. With the power of the masses, it was done at a comete’s speed…

It is used in advertising. A famous example, cited by Wikipedia, is Doritos (snack food), which crowdsourced the production of an ad for the Super Bowl. Football and Doritos fans had a chance to win a cash prize, a trip to watch the Super Bowl, and the proverbial “15 minutes of fame”.

Entrepreneurs are using it, especially start-ups and small companies, for a range of needs, from designing their e-commerce website to raising capital. The latter is called “crowdfunding”.

But now, large firms are also coming to it, as reported in the Wall Street Journal (17 January 2012). The Journal cites AOL which used crowdsourcing last year to get an inventory of its video library; it adds that AOL, Microsoft, and LinkedIn have all used the services of Amazon’s Mechanical Turk crowdsourcing service (over 500,000 registered “workers” from 190 countries).

The applications are infinite. At this stage of the paper, if you are a parent, like me, you can’t help having this inner dialogue: “Are my children crowdsourcing their homework? No way! I don’t think so. I hope not. They can’t do that. Can they?”.

Why it works

According to Jeff Howe (quoted in Wikipedia) the concept depends essentially on the open call. Because it is an open call to a group of people, it naturally gathers those “who are most fit to perform tasks, solve complex problems and contribute with the most relevant and fresh ideas.” Howe further explains that because technological advances have allowed for cheap consumer electronics, the gap between professionals and amateurs has been diminished. As a result companies are now able to take advantage of the talent of the public. Promoters can tap a wider range of talent than might be present in their own organization. My take on this: the masses are more creative, innovative, and smart than you and I would have thought. And if businesses find that it’s cheaper and faster than traditional outsourcing or hiring temps, they’ll keep using it.

Is money always involved?

Not always. Some projects offer monetary incentives, cash prizes, but not to every participant. Usually it’s only the person who found the right solution who gets the compensation; there’s a competitive aspect to many crowdsourced projects. But other projects only offer to the contributors a chance of fulfilling a hobby, the satisfaction of having contributed, of working collaboratively, with a community, of being publicly recognized.

Is this ideal, a panacea?

Sadly, like most things in life, it’s neither ideal nor a panacea. There are most certainly fields that do not lend to crowdsourcing because of issues of confidentiality, security, liability. Also, crowdsourcing doesn’t always produce the quality results one is looking for. Contributors are usually not protected by a written contract. Companies are not guaranteed that the contributors will remain involved throughout the duration of a project. Also, it can be abused to source cheap or even unpaid labor. Harvard Law School professor Jonathan Zittrain talks about the risk of “digital sweatshops”, reminiscent of the Nike-China factory scandal of years ago. Facebook faced these criticisms in 2008 when it began its “localization program” inviting users in each country to translate for free. To address these risks, the ‘crowd’ is increasingly vetted in advance, selected and professional ‘brokers’ facilitate the exchange between outsourcing companies and the ‘crowd’. An example is offered by Amazon.com’s Mechanical Turk, which empowers firms, developers and creators by “lubricating the relationship between them and crowdss”, and by “creating a platform through which crowds and employers communicate and perform transactions in a way that is safe for both parties”. Other examples of this trend towards professionalization and intermediation include OnForce, Elance.com, Innocentive, CrowdSpring, and Guru.com.

What functions lend themselves to crowdsourcing?

As mentioned above, not every function can be crowdsourced; as the CEO of a company, you would perhaps outsource what you perceive as support or back-office functions (accounting, travel services , IT, some but not all functions of H.R, etc) but you would not outsource to someone you do not control an activity that is your core competence. The same caution probably applies to crowdsourcing.

ScalableWorkforce has identified 5 business areas that lend themselves well to crowdsourcing:

1. Problem-solving (medicine, biotech, science, manufacturing and engineering)

2. Design (designing clothes, designing websites…)

3. Simple, general, or routine tasks (transcription services, surveys, copy writing, proof-reading, editing, internet research, etc.)

4. Testing (particularly for software, games, websites…). Who would make a more enthusiastic tester of a new video-game than a hardcore gamer? I bet some would pay for the privilege and opportunity to be the first users…

5. Customer support: sometimes the enthusiastic (and unpaid) users of a product can provide better information to other customers than the manufacturer’s staff itself.

In closing, I would be interested in knowing what you think of crowdsourcing. Is it a fad or something that is here to stay, that has great potential? In which field? Have you used crowdsourcing and, if so, where you satisfied with the experience? If you haven’t used it yet, for which task or project would you use crowdsourcing?

Source / Read more:

“The rise of Crowdsourcing”, Jeff Howe , Wired, June 2006.

“Big Firms Try Crowdsourcing”, Rachel Emma Silverman, The Wall Street Journal, paper edition, Jan. 17, 2012.

“9 examples of crowdsourcing before crowdsourcing existed”, Stuart Thomas, memebern.com, Sept.15, 2011. Retrieved at: http://memeburn.com/2011/09/9-examples-of-crowdsourcing-before-%E2%80%98crowdsourcing%E2%80%99-existed

“10 examples of how crowdsourcing is changing the world”, The Social Path, May 29, 2009. Retrieved at: http://www.thesocialpath.com/2009/05/10-examples-of-crowdsourcing.html

 “Crowdsourcing Business Examples”, ScalableWorkforce (undated). Retrieved at: http://www.scalableworkforce.com/crowdsourcing-history-background/crowdsourcing-examples-in-business/

2011: The Year of the Failed IPO Comeback

By Xavier Forneris

In my January 6 post, I talked about the Internet IPO’s of 2011, indicating that most of them had been either disappointments or total flops. I gave the example of the much-anticipated Zynga IPO (in December 2011). Zynga closed its first day of trading at 5% below the offer price; by Dec. 30, it had lost almost 6%. In fairness to Zynga, I could have mentioned bigger losers:

  • Friend Finder Networks (IPO in May 2011) fared even worse: at the first day close it was 21.5% down; by year-end, it had lost a whopping 92.3%, trading at 77 cents, from an offering price of $10. 
  • Tudou, the Chinese online video company, listed on the NASDAQ in August (offering price $29) and finished the year at $10.5, a 64% decline.
  • Renren, a social networking internet platform, also from China, was listed on the NYSE in May, at an offering price of $14 and ended the year at $3.55, losing almost 75%
  • Demand Media, the Santa Monica (CA) online content publisher was offered on the NYSE at $17 in January; it closed the year 61% down, at $6.65.

The other Tech or Internet companies that had IPO’s in 2011 and closed the year on 30 Dec 2011 with a stock price lower than the offering price included Pandora Media, Zipcar, Boingo Wireless, and Yandex. To be fair, I also mentioned a few successful Internet/Tech IPO’s in 2011: LinkedIn, Jive Software, Angie’s List, Zillow, Groupon, Fusion-io and Bankrate, all closed the year at a price that was above their respective offering prices. A few of them actually had a quite impressive performance:

  • LinkedIn gained about 40% between its IPO (May 19) and Dec. 30, the last trading day of the year. This was probably the best or one of the best-performing IPO’s of the year, across all industries, in the U.S.
  • Jive Software gained 33.33% between its IPO (Dec. 12) and Dec. 30
  • Angie’s List gained 23.85% between its IPO (Nov 17) and Dec. 30
  • Zillow gained 12.4% between its IPO (July 20) and Dec. 30.

But in spite of these few successes, the fact remains that we can’t call 2011 a successful year for Internet IPO’s. In fact, I mentioned a grim finding by Birinyi Associates: 19 of the 31 Internet and Social Media companies that went public in 2011 are trading below their offering price. Acccording to Renaissance Capital, stock of Tech companies that went public in 2011 have fallen 15%.

I’m not picking on Internet businesses. I did also mention that it was not just the Tech or Social Media companies that were on that “rocky IPO boat”. As 2011 showed the signs of a prolonged global economic slowdown and a worse-than-expected European fiscal crisis, and as the public anger at Wall Street only grew stronger (evidenced by the “Occupy Wall Street” movement) companies that dared to go public in the U.S. did not fare extremely well, across sectors and industries.

Collectively, IPOs that went public this year lost 13% of their value, the first negative return since 2008, and about two-thirds of companies that went public this year are trading below their offering price (Source: IPO Boutique).I have not looked at European IPO’s yet but I suspect that they did not fare much better. Because of the adverse environment and tepid investor reaction, several companies that had lined up for IPO’s chose to postpone them and to wait for “better days”. Those include, for instance, GSE Holding, FusionStorm Global, and Luxfer Holdings. As in the Tech sector, there were a few successes. One of the most talked about was the IPO of luxury clothing and accessories company Michael Kors Holdings Ltd., which was priced higher and sold more shares than expected.

Will 2012 be a better year for IPO’s, especially in the U.S.? I wish I had a crystal ball…Much will depend on the global outlook and how Europe manages its debt crisis. But you can bet that IPO’s will be watched very closely, as a bellwether for the overall economy. And no IPO will be observed more than that of Facebook, if Mark Zuckerberg indeed decides to go ahead with the IPO, as the rumour has it, perhaps in the first half or maybe the first quarter of 2012. Other closely watched Internet IPO’s will be those of Yelp (the reviews site) and Gilt Groupe (an online retailer), if they also get confirmed.

Those brave souls that decide to go public in 2012 should probably rely on proven tactics such as going for smaller deals (for instance 0ffering only 10% or less of the outstanding shares) and setting a conservative/lower offering price, to stimulate demand and increase chances of gain for investors.

2011: Not a good year for Internet IPO’s. Does it matter?

By Xavier Forneris.

In a previous post, I talked about the “mixed success” of the Zynga IPO. Some observers were less kind and called it an IPO flop. Introduced at $10 (NASDAQ:ZNGA), the share price first surged to $11.50 before falling and closing the day at $9.50, or 5 percent less than the initial price! This was bad in itself but it was also in sharp contrast with LinkedIn’s first trading day after its own IPO, closing at $122.90 from a starting price of $45 per share.

The problem is, it’s not only Zynga. According to research firm Birinyi Associates, 19 of the 31 Internet and Social Media companies that went public in 2011 are trading below their offering price. A sobering observation if there is one.

According to Matt Linley (in one of his Dec 19 posts in Business Insider), 9 of the 16 tech companies that went public in 2011 were under-performing their IPO offering price by the end of the year. The difference in numbers between  Birinyi Associates (19/31) and Matt Lynley (9/16) may come from different definitions of “internet” and “tech” companies; or it may be that Birinyi’s research covers more markets/countries than Matt’s piece. Anyway, they reach the same conclusion: over half of Internet IPO’s in 2011 were disappointments.

I would now like to discuss why disappointing flotations matter. It’s not just that the folks who buy stock in the IPO lose money. After all, savvy (or connected) investors who play the IPO game should expect a certain risk level. But a more serious concern in my view is the ripple effect which we could see, both at national and local levels. Let’s start with the local level: in an excellent article recently published in the San Jose Mercury News – a great source of information for Silicon Valley aficionados-, Peter Delevett identifies some of the effects that disappointing IPO’s of social media businesses (such as Zynga) can have. In short, he explains that some firms that were contemplating a flotation may be thinking twice now. He adds that this could “dampen the wealth-generating effect a raft of initial public offerings can have on Bay Area employment, housing prices, and luxury auto (sales)”. This would be unfortunate, especially in our depressed economy, but Delevett then mentions other effects, which I view as more problematic for the economy. Delevett explains that if the venture capital (VC) firms can not take the start-ups public, they would have to either find buyers for them, inject more funds into them or, worse, “pull the plug” and let them die. It’s not only a one person’s opinion. As a matter of fact, the article quotes two Silicon Valley insiders who seem to share this sentiment:

Tim Young, founder of Socialcast, a start-up:

There are going to be a lot of walking dead start-ups that can’t close that third or fourth funding round

Mike Smerklo, CEO of Service Source:

“As soon as the public market investor starts to pull back, it has that ripple effect on the whole funding cycle”.

So, what will Internet, Social Media, and other Tech firms do in this difficult and unpredictable environment (which is of course largely influenced by, and reflects the state of, the overall economy)? Delevett identifies several possible developments:

  • A number of start-ups may decide to remain private, postponing or cancelling their flotation plans.
  • Start-ups will have to look for alternative source of financing.
  • Firms that decide to go public, may choose to sell a relatively small percentage of shares to “stimulate” demand. That was in a way the tactic implemented by Groupon and LinkedIn when they both offered less than 10% of their outstanding stock in their IPO’s. 
  • And other firms deciding to go public may set a lower than expected offering price for their shares, again in an effort to stimulate demand.  

I fully agree with Delevett. I hope that valuation will (finally) get the attention it deserves. IPO strategists will devote lots of efforts to identifying the “right offering price” but also the “right time”. Timing is a critical factor for IPO success. For instance, I agree with Matt Linley (see his post on LinkedIn’s IPO) that LinkedIn did its IPO at a much better time (May) than other Internet companies that went public later in the year and faced much more difficult market conditions.

How big of a problem is all of this? How many internet and tech firms are concerned? It’s difficult to say but one indicator we can use is the number of Internet companies that already filed to go public. According to Hans Swildens of Industry Ventures , also quoted in the same San Jose Mercury News article:

“There are 65 tech companies on file to go public , and it’s pretty clear that all these guys are not gonna be able to go out”.

But I don’t want to end on a sour note. To be fair, some Internet IPO’s were a success in 2011:

  • LinkedIn gained about 40% between its IPO (May 19) and Dec. 30, the last trading day of the year. This was probably the best or one of the best-performing IPO’s of the year, across all industries, in the U.S.
  • Jive Software gained 33.33% between its IPO (Dec. 12) and Dec. 30
  • Angie’s List gained 23.85% between its IPO (Nov 17) and Dec. 30
  • Zillow gained 12.4% between its IPO (July 20) and Dec. 30.

I will continue to follow these firms’ stock price in 2012 and beyond to see how they perform over time. I’ll also come back to the issue of excessive valuation and to the risk of a new internet bubble in future posts; this one was about the effect of “IPO flops” on the Internet/Social Media start-ups and their financing needs. In a next post I will also explain that it’s not just Internet companies that had a “bad IPO year in 2011”. As we will see, there were many disappointing and less-than-successful IPO’s last year, across industries. The ripple effects discussed here for Internet companies will largely apply to other sectors of the economy.

Note from the Author / Sources:

I want to thank Peter Delevett whose article has inspired me to write this post. I have borrowed quite liberally from his article – the version I have read in an East Coast newspaper was a little different and longer than the one that can be retrieved through the Mercury News website (title and link below). But I have used some of Peter’s quotes and ideas to support the argument I have been trying to make for the last month, namely that the hype and buzz we observe around social media can lead to irrational investment decisions and to discarding hard facts as irrelevant. I raise the issue of excessive valuation and expectations because the same pattern was observed before the 1999-2000 Internet bubble. As a big fan of Social Media and the Internet, I sincerely hope that we are not in a bubble. I will never try to predict a bubble; this is way beyond my competence, but I think the possibility deserves to be discussed. Following are the main sources I have used for this post: Peter Delevett’s article and two excellent posts by Matt Lynley. If you are interested in the above-mentioned issues, I strongly recommend that you read these 3 pieces.

Zynga’s flop could hurt some start-ups, Peter Delevett, San Jose Mercury News, 01 Jan. 2012. Link: http://www.mercurynews.com/business/ci_19618020?IADID=Search-www.mercurynews.com-www.mercurynews.com

Most Tech IPO’s this year were total busts, Matt Lynley, Business Insider, 19 Dec. 2011. Link: http://www.businessinsider.com/year-in-ipos-updated-2011-11

Why LinkedIn’s IPO was a big success when almost everyone else was a bust, Matt Lynley, Business Insider, 19 Dec. 2011. Link: http://www.businessinsider.com/linkedin-had-the-best-tech-ipo-of-the-year-by-a-huge-margin-2011-12

Zynga’s first trading day (Dec. 16, 2011)

Credit: Zynga (Dec. 16, 2011)

By Xavier Forneris

In a previous post, on Dec. 13, I talked about the question of valuation for social media and other internet businesses. In that post I mentioned the imminent IPO by Zynga, maker of games for Facebook such as “Farm Ville” or “Mafia Wars”. Today was Zinga’s first trading day and I wanted to provide a follow-up on this. So how did it go?

Well, on the one hand, Zynga met its objectives which was to raise $1 billion through its initial public offering. It sold 100 million shares at a price of $10 each, i.e., at the top of the $8.50 to $10 range that was expected. But, on the other hand, after an early surge to $11.50 the share price (listed on NASDAQ under the symbol ZNGA) fell and closed at $9.50, or 5 percent less than the initial price. This was also in sharp contrast with LinkedIn’s first trading day after its own IPO, closing at $122.90 from a starting price of $45 per share.

Although the IPO gives Zynga a $7 bn valuation, the drop was significant but not entirely surprising: shares in Japan-based Nexon, which also makes games for Facebook platform and went public earlier, have already registered a 15 percent drop since Nexon’s flotation. The questions thus remain “are the valuations justified; are shareholders paying too much?” Zynga’s valuation of $7 bn represents a multiple of 6.8 times in relation to its annual revenue (for the 12-month period ending Sept. 30). In comparison the market capitalization of Electronic Arts, maker of games for mobile devices, was $6.9 bn on 12/15/2011 but this only represents about 1.8 times its one-year sales. Why does one have a multiple three times that of the other, when these firms seem fairly similar? Do investors have reason to believe that Zynga’s growth potential is three times bigger than Electronic Arts’?

Another way to answer the “Are investors paying too much?” question is to look at the stock price of companies operating in the same “social space”. Interesting data on this was offered in a Bloomberg Business Week piece on Zynga’s IPO also published today. The article quotes Kevin Pleines, an analyst at Birinyi Associates who wrote in a December 13 research note:

Sixty percent of the Internet or social-media companies that completed U.S. IPOs since 2010 are trading below offer price. Buyers of the shares at their opening trade in the public market have lost an average of 32 percent.

These numbers should give investors pause. No doubt, Facebook’s IPO in the new year will be watched very closely.

Source: Zynga Declines in First Day of Trading After $1 Billion IPO, by Lee Spears and Douglas MacMillan, for Bloomberg Businessweek, Dec. 16, 2011.

Valuation multiples in social media companies

By Xavier Forneris

In a recent post I discussed the issue of valuation for internet businesses in general and social networking companies in particular. I mentioned several examples of successful and not-so-successful initial public offerings (IPO’s) to illustrate the valuation issue. An IPO is not a requirement to make valid observations on the value of firms. When these companies are still private, what private equity, VC firms and other investors pay for a share of these companies, in private transactions with the founders (usually) allows to determine their overall value. The topic of social media valuation is not an acamedic but a very practical one. Implicit in my question is the concern that the public may be paying too much for a share of the social media boom and some have asked whether a new “internet bubble” reminiscent of the collapse of the dot-com market in 2000 was in the works.

And I’m sure many of you are familiar with the case of Skype, which eBay purchased in 2005 for $2.6 bn. At the time that represented 350 times Skype’s annual revenues. About 2 years later eBay took at $1.4 bn write down on its investment. In 2011, it was purchased by Microsoft for $8.5 bn, which meant a much more modest multiple (about 10, down from 350).

I must admit that I find the valuation multiples in the sector a little nerve-wracking. What matters is not the size of an IPO or how much a company is valued at, but what the valuation represents relative to the company’s annual revenue (sales). For example, when LinkedIn was valued at $9 bn after its successful IPO, this means that it was valued at 45 times its annual revenue of $200 m, or in “finance speak”, a multiple of 45. With annual revenue of $150m, Twitter‘s recent valuation at $7.7 bn means a multiple of 50. Zynga, the San Francisco-based maker of social games (such as CityVille and FarmVille) is due to have its IPO and start trading this coming Friday (Dec. 16) on NASDAQ. Zynga said it plans to sell 100 million shares at a price range between $8.50 and $10 per share. That would raise $1 bn, making it the biggest US Internet IPO since Google in 2004 (which I mentioned in my previous post) and giving the company a total market cap of $7 bn. For the nine months ended Sept. 30, Zynga claimed total revenue of $829 m.

If Facebook does an IPO in early 2012 that values the company at $100 bn, that would mean a multiple of 50, based on annual revenue of about $200 m. Based on its recent valuation at $75 bn, Facebook’s current multiple is about 37.5.

Looking at “typical” multiples, industry by industry, would help put things in perspective. Unfortunately, there’s no “commonly agreed multiple”. Different experts use different valuation methods. Valuation multiples vary from industry to industry; even businesses in the same industry sell for widely ranging multiples. Multiples also vary with the state of the overall economy, the stage of development of a company, or the reliability of its financial statements.

This being said, I want to quote a post by Michael Gravel on “Internet Application Software Business Valuation Multiples” (June 24, 2011):

A review of the 47 announced transactions within the Internet software and application software sector for the past eighteen months establishes a range (per individual announced deal) of business valuation multiples from .06x on the low side to 9.3x of gross revenues on the high side with the majority of the deals falling within 1.8x to 3.4x multiple of gross revenues.

These multiples, in an industry that is not too distant from the one we’re discussing, are much, much lower. But this does not necessarily mean that valuations for social media and internet firms are wrong or deceptive, nor that people behind these vlauations are over-optimistic or delusional. But it’s certainly justifies wondering whether investors are paying too much and whether such sky-high multiples can be sustained over a long period of time. Hence the concern, often raised in the blogosphere, of a possible “social media bubble”.

Another way of looking at this is to ask whether the social media companies will eventually realize the potential that investors have seen in them, in other words if their revenues will go up significantly, which would then bring the multiples to a more “reasonable” level. At least the companies I mentioned above have revenues. In his May 26, 2011 blog post “INFOGRAPHIC: The Soaring Valuations Of Social Networking Companies”, Kris Holt mentions two companies that have no revenues and a nice valuation (although not in the billions): Color Labs, valued recently at $41m and delicious valued between $15m-$30m, also with no revenues. Investors in these two companies are evidently betting that this situation will change and that they will be able to cash out.

I encourage you to read Kris Holt’s post on Scribbal, which includes a great infographic published by G+ (gplus.com). Below my post I provide the links for both Kris Holt’s post and for the original source of the infographic. I also welcome your views and comments on the tricky question of valuation for social media and internet businesses.

Sources / Read more:

http://www.imergeadvisors.com/2011/06/internet-application-software-business-valuation-multiples

http://www.scribbal.com/2011/05/infographic-the-soaring-valuations-of-social-networking-companies/

https://www.gplus.com/Editorial/Detail?seoName=INFOGRAPHIC-Is-there-a-Tech-Bubble&topicNames=Social-Media

http://www.minyanville.com/businessmarkets/articles/thestreet-zynga-zynga-ipo-internet-stocks/12/2/2011/id/38190

Chindia : The Dragon vs. the Tiger, or the rise of two giants

By Xavier Forneris.

Among the “BRICS” – a group of leading emerging economies comprised of Brazil, Russia, India, China, and South Africa – two countries stand out for their large population (of well over 1 billion each), rising economic clout and rapid growth: India and China, or Chindia, as the pair is now known. An Indian politician, Jairam Ramesh, Minister of State for Commerce, Government of India, claims to have coined the term Chindia in 2005 to evoke the simultaneous rise of China and India and their fierce competition for global economic dominance. Yet, the countries could not be more different. Even their focus seems to be placed on different objectives. While India’s energy appears concentrated on outpacing China’s rate of growth, China seems intent on capturing the title of “top global economic power” from the U.S.

At this stage, I have to put a few numbers on the table, just give a sense of the relative size of Chindia’s economies to the rest of the world. Please don’t sue me over these numbers. Depending on the source and method used to compute GDP, the numbers and relative positions in the ranking can vary. This particular dataset is from the World Factbook.

We’re a culture fascinated with ranking and benchmarking, so let me indulge by giving you the “Top 10”, ie., the 10 largest economies in 2011 (by Purchasing Power Parity – or PPP- GDP): 

Rank Country Population GDP/PPP
1 United States  312 million $14.66 trillion
2 China   1.34 billion $10.09 trillion
3 Japan  128 million $  4.31 trillion
4 India    1.21 billion $  4.06 trillion
5 Germany    82 million $  2.94 trillion
6 Russia  143 million $  2.22 trillion
7 U.K.    62 million $  2.173 trillion
8 Brazil  192 million $  2.172 trillion
9 France    66 million $  2.145 trillion
10 Italy    61 million

$  1.774 trillion

We can see that China’s economy is not very far behind the US, and that India’s economy is already larger than Germany’s or Russia’s, but still less than half the size of China’s.

Several economic projections I saw suggest that India and China are likely to become the two largest economies by 2050 and that China should seize the top spot (overpassing the US) around 2017-2020.

I thought it would be interesting to compare the two giant countries, India and China, in an effort to determine whether one is best positioned than the other for future global leadership. But I will not compare their growth rates. Like Amartya Sen, the Indian Nobel Prize in Economics, I find the debate on which of the two countries has the higher growth rate a little silly. Both countries still face many challenges incluing access to education and health, infrastructure, and inequality.

Commonalities

The size of the domestic market and the relatively low-cost labor  are well known commonalities. A more strategic one is their thirst for resources. Both India and China will require enormous resources to fuel their growth and feed their enormous population. The demand for natural resources (such as as oil, gas, coal, copper, bauxite, aluminum, iron and steel) but also for industrial equipment and food products will be here for a long time; and they also create opportunities for developing countries that produce these resources. Africa, for instance, has become a more important source of natural resources for China. As the global resource pool is finite, this thirst from resources will inevitably create tensions with Europe and the U.S. A second less discussed commonality is the emergence of Chinese and Indian MNC’s as global players and even global leaders. From FDI-importing countries (China more than India), the two nations have become sources of FDI.

Differences

India is a democracy, perhaps not a Jeffersonian one, but a democracy nevertheless. China is generally considered as less advanced and open politically than India. There are, however, clear advantages to the discipline that China can impose to its population and bureaucracy. Implementing deep policy reforms or massive infrastructure projects is easier in an autocratic regime than in a Western-style democracy where all sorts of resistance may impede the process. But it would be a mistake to think that everything gets decided in Beijing by a handful of leaders.There is in China an increasing involvement and participation of local levels of government in decision-making, which explain why the Chinese political system is often described as one of “pluralism within a single party system”.

The economic models are also very different. India’s model relies on the private enterprise whereas China practices a form of “State Capitalism”, with strong government backing of large state-owned enterprises (SOEs). At some point in their development, companies such as Haier, Lenovo, China Development Bank, China Mobil, Petro China, among others have all benefited from this strong government backing. Even a fully private company such as the telecom infrastructure giant Huawei – which I had the opportunity to visit in Shenzhen – seems to have benefited greatly from its close ties to the Chinese government. And its ownership structure remains quite opaque.

China has significantly better Infrastructure and logistics than India and has made a very smart use of the “Special Economic Zones” (SEZ) to develop certain provinces or districts and test economic reforms before extending them to the entire nation. Shenzen is one example of such utilization of SEZ status.

China’s economic growth is largely driven by FDI, exports, and manufacturing; whereas India’s growth seems driven by domestic consumption, capital markets, and IT/Services. I often hear that “if China is the world’s workshop; India is its back-office”. As convenient as this statement is, it is a bit of an over-simplification. The services sector is rapidly developing in China and, conversely, India’s economy can not be reduced to outsourcing.

Demography, on the other hand, is an area where India seems to have a significant advantage over China. China’s population is rapidly aging. This could cause its impressive rate of economic growth to reach a plateau, as has happened in Japan and several European nations. Although China’s fertility rate has been below replacement level for almost 20 years the “One Child policy” is still in place. But this might be changing; I was told that the Shanghai province would have renounced this policy and would already be encouraging couples to have more than one child. Yet, some demographic studies suggest that China’s work force will peak in absolute terms in only 4 years before dropping. In contrast India is a much younger nation. According to demographic studies cited in a JP Morgan Chase study (2007), 58% of the Indian population will be under 29 years old by 2015 vs. only 33-35% in China. This is a significant difference and, again, this one seems to favour India.

Finally, the integration of local firms into the “global business world” should also occur very differently. It is reasonable to assume that India’s businesses will be more easily integrated in the global economy, through large acquisitions of eminent “Western” companies with the technology, the manufacturing capability, and the other assets that Indian companies need. Suffice to cite the acquisition of Arcelor by Mittal Steel or of Corus Steel by the Tata group, among many other large-scale acquisitions of Western firms by Indian companies. In contrast, Chinese companies are facing more obstacles in in their attemps to acquire foreign companies, particularly in the U.S and when technology or intellectual property rights are involved. Several attempted Chinese acquisitions failed because of strong political resistance. Two examples are Haier’s attempt over Maytag and CNOOC’s plan to acquire Unocal. This last argument is not without flaws: a case in point being Lenovo’s success in acquiring IBM’s PC division. But a commonly held view among many observers of Asian business is that growth for Chinese companies will be more organic and will come less from international acquisitions than would be the case for Indian companies.

Conclusion

Given the two countries’ impressive growth and enormous markets, there is little doubt in my view that Chindia will play a central, expanding and perhaps or probably dominating role in the global economy. But I will not go as far as some who declare that “The West is finished”, a form of “neo-Spenglerism” thinking. And I also think that the focus on growth rates in the two countries is excessive and probably misplaced. Economic history shows that growth can not last for ever and, as the adage goes: “The bigger the booms; the more spectacular the bubbles and devastating the busts”. Also, both countries would be wise to pay more attention to the quality of the growth, how to reduce the inequality gap, and how to improve access to education and health, transparency, and the environment. All these things are needed for sustainable growth. 

Read More:

Amartya Sen’s sentiment about the excessive focus on growth rate was well summarized in a recent FT article: Is India growing faster than China? Financial Times, April 18, 2011. See:  http://blogs.ft.com/beyond-brics/2011/04/18/is-india-growing-faster-than-china/

Jairam Ramesh, “Making Sense of Chindia: Reflections on China and India” (India Research Press, New Delhi; May 2005)

On Spengler: http://en.wikipedia.org/wiki/Oswald_Spengler

Will Harvard Business School succeed in reinventing its legendary MBA?

 By Xavier Forneris

Harvard Business School (HBS), one of the most prestigious producers of MBA’s worldwide, has introduced a big change to his curriculum. As reported in The Economist (12/3/2011), the “Field Immersion Experiences for Leadership Development” whose acronym is, conveniently, “FIELD”, is supposed to become as important as the well-established case method that Harvard has pioneered and was adopted by most business schools. It applies to the new cohort of 900 full time MBA’s who started their two-year program at HBS last summer.It apparently consists of 3 components, all introduced in the first year (the second year part of the FIELD is still under development):

  1. Team-building exercises. Each student is expected to lead a team for a specific project, with the objective of learning how to collaborate, give and receive feedback. 
  2. Field work: each student would be sent to a firm, among 140 in 11 countries, to work there for a week, in a sort of “structured learning by doing”. HBS alumni would certainly be mobilized to host students in their respective companies and HBS has vast network of alumni, dispersed globally.
  3. Each student will receive $3,000 in seed money and have 8 weeks to launch a small business. A vote will then take place among all students to select the most successul or promising venture(s), that will receive more funding.

Looking at these three items, my first observation was “Why, they didn’t have team-building exercises yet”? In my own MBA program, at the University of North Carolina’s Kenan Flagler School of Business, team-building was one of the first things we did, at the outset of the program. I’m surprised that HBS MBA’s didn’t have that until now. In fairness, I don’t have enough detail about what each item really entails so it’s difficult to judge how innovative that is. Also, my MBA was for Executives and the article is about the full-time MBA program. But I would be surprised if full-time MBAs at UNC do not have team-building exercises already built in their curriculum for year 1.

The Economist raises a good point when it says, talking about item #2 “It is unclear how much the one-week working assignments will achieve”. I fully agree. The idea of being embedded in company, whether a domestic or overseas one, is a great concept, but shouldn’t they make this a longer experience? The Economist quotes a management guru, Pankaj Ghemawat:

Litterature suggests that an immersion experence needs to be at least 2-3 week experience and be backed up with time in the classroom”.

Clearly HBS must have access to this research. It often is one of the leading and most prolific sources of management literature. By the time you get to China or India, get over jet lag, orient yourself in the company, it’s basically time to come home…I’m slightly exaggerating here, and it’s true that a lot of ground work preparation can be done over the course of several weeks before the actual student’s departure. Yet, one week seems very short, and with the pressure of the MBA course requirements one can question how much time the HBS students will actually devote to this preparation.

As The Economist also points out, it remains to be seen how item # 3 (seed money for start-up) is different from the traditional business plan competition. I don’t have the details but the difference may be the actual start of a business. In a traditional business plan competition, one does not actually have to start a business before the competition; if you win, you can then use the prize money to implement your project. Here, it seems that students will be required to actually start a business, not just dream one on a business plan, and do so in a relatively short period (2 months). To me, it seems to be the most innovative aspect of the FIELD initiative, the one I would have enjoyed doing if it had been part of our curriculum. What is often lacking in many MBA programs is the practical application of what you are learning in class and also a focus on entrepreneurship. There are some MBA specializing in entrepreneurship but it is my impression that most MBA’s are really designed to teach you how to operate within, manage and grow an existing business rather than how to start your own.

Finally, The Economist article explains that the initiative was approved by faculty, in a vote that was apparently not very enthusiastic, and only for a 3 to 5-year period to “experiment”. Finally, it says that the experiment should add 10 to 15% to the cost of the course, borne by HBS, at least in the beginning.

 Source/Read more: The Economist, Dec. 3, 2011