Social Media is a “Super-Cycle” Built for Two – or Two Billion (part 2)

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This week Global X Funds celebrates the one year anniversary of their Global X Social Media Index ETF (NASDAQ: SOCL).  CEO Bruno del Ama discusses the reasoning behind the fund and considers trends and projections based on previous revolutions in global business.

[continued from part 1]

del Ama: One of the benefits of the ETF is gaining exposure to the more difficult to access social media companies that are listed in places like China, Taiwan, Russia, Japan, Germany, etc.

Also, when new social media companies IPO, the index methodology does not add them into the index the day they IPO.  It waits a few days for the process of price discovery to take place so that the price the security comes into the index and fund is more reflective of the longer-term valuation. This was a significant benefit when Facebook came into the index as the valuation came down in the days following the IPO.  The ETF is also diversified across all the largest social media stocks around the world, so returns cannot be hit too badly by any one security that may be mis-priced.

Slepko:  What is it about the social media business that you focus on?

del Ama:  The most important component of social media is the network effect.  There are three factors that generally drive profitability.  First, how fast you are growing your revenues.  Second, how much operating leverage do you have – how much profit can you extract from those revenues.  Third, how defensible is it because you can be growing fast and have high profits, but if someone can copy your business model and displace you, then the value of the business is much lower.

So when Google (NASDAQ: GOOG) develops Google Plus, which may be a better technology than Facebook (NASDAQ: FB) in many ways, their ability to attract users is still negligible because the primary reason people go to Facebook or LinkedIn (NYSE: LNKD) is that their friends or professional relationships are already there.  The technology and user-centered experience is very important, but it’s also the ability to build these networks that makes these companies special.

Once you have a billion users, or the US working population of professionals, or essentially all the Japanese Internet users in the case of DeNA, or over 160 million micro-bloggers in the case of China’s Tencent Holdings (NASDAQOTH:TCEHY), these kinds of properties are hard to displace in our opinion.  In economics these types of properties are known as local monopolies, maybe even natural monopolies, which are always great businesses to own.

I don’t think anyone doubts the amount of growth there has been in the use of social media, but the reason social media gets a bad reputation is the skepticism of the valuations in the US and the ability of companies to monetize their networks.  However, these companies are so early in the stages of their evolution that it is understandable that they have focused on building their moat and their network before they feel comfortable focusing on monetizing.

The other thing that’s going on in people’s psyches is that everyone remembers 2000 and the technology bubble.  There is a massive difference between then and today.  In 2000, valuations were based on esoteric metrics such as “eyeballs” on a webpage.  In 2012, valuations are standard metrics such as price-earnings multiples.  We are not talking about revenue multiples, we are talking about earnings.  Most of the companies in SOCL are profitable – some very profitable.

[continued in part 3]



Nick Slepko (hukgon) has no position in any company mentioned here at the time of publication. The Motley Fool owns shares of Facebook, Google, and LinkedIn and has the following options: long JAN 2014 $20.00 calls on Facebook. Motley Fool newsletter services recommend Facebook, Google, and LinkedIn. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.

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