As I was writing out my previous post Memo to Yahoo! RE: Video and trying it with “Will Web Video Represent $150B in market value creation by 2011 for web startups?” something occured to me:
The economically optimal thing for old media companies is NOT to acquire web video startups but actually simply invest in them.
The reason is simple: startup companies get a much higher multiple than old media companies do, so as these startups grow, fight for the $4.3B-$10B that online video advertising will represent by 2011 and rise in value, they provide with a capital gain opportunity for investors.
But, old media companies are not exactly investors, they are integrators of companies into operations, hoping to yield a strategic value of sorts. The problem, or disparity here is simple: a $4.3B-$10B online video ad market is paltry next to the $75B TV advertising market, so the opportunity for income is slim, with limited upside.
It should be noted that CBS Interactive has been very aggressive in investing in companies, and NBC set up a $250M investment fund managed by Beth Comstock, with a first investment in Adify. So, they’ve done the math, too, I suspect. Then again, other firms, like News Corp., “don’t lease, they buy”.
Regardless, the math suggests, old media is far better off investing and leaving independent these media companies… because at the kind of multiples that Web companies command, a $10B ad market for web video could represent a $150B market valuation. Those are, after all, the figures for Google’s 2006 revenues and market cap respectively.
A basic math reinforces this:
Say you are really lucky as a TV company and buy a company X that gets 10% of the online video ad market, some basic, straight line math suggests that they get anywhere from $430M to $1B in revenue. We chose Disney as the media stock of 2006 as a benchmark. As I write this, according to Yahoo! Finance, its P/E is 16.3 and its P/S is just under 2, at 1.93. Forget earnings, let’s just look at Sales. If the company X does $430M to $1B in revenue (10% of the $4.3B to $10B estimates), that adds a lot of potential income (depending on Disney’s Degree of Operating and Financial Leverage) but it only adds,
- at the low range, 1.93 x 430M = $829M
- at the high range, 1.93 x 1B = $1.93B
for an average of $1.37B in added market cap.
Disney, it should be noted, is currently worth $68B in market cap, so that means about 1.5-3% of its value. Pretty paltry. Admittedly, an annuity of $430M to $1B adds a lot of a company’s market cap… but it’s not exactly a perpetuity as revenues for such companies go up and down quite a bit.
But by investing, if the same company does 10% market share, and using straight math once again, then at the high end of $10B in revenue and $150B in market value, company X can command a $15B market cap.
There are other variables, ideally an old media firm would buy 80.1% of a startup to consolidate financials, but leave them independent so they can remain lean, mean and a capital gain building money machine. But at anything over 10% equity, as the math shows, old media is probably better off investing and not buying.
It’s really challenging to be a TV executive these days. If you look back, you see what happened to print companies, if you look forward, you realize you’re caught between a rock and a hard place.
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