Buffett Warns Of Bubble In Social-Networking IPOs

Buffett Warns Of Bubble In Social-Networking IPOs

By Daya Baran at March 28, 2011 on Webguild

Warren Buffett, one of the world’s greatest investors, said investors should be wary of valuations in social networking websites as they prepare to sell shares to the public.
“Most of them will be overpriced… It’s extremely difficult to value social- networking-site companies… Some will be huge winners, which will make up for the rest”, said Buffett, speaking at a conference in New Delhi, India.
In January 2011, Facebook, was valued at $50 billion based on private stock purchase by Goldman Sachs. Since then the company is being valued at $80 billion based on shares trades on private-share sales site Sharepost. Twitter, is another such company with an astronomical valuation. Groupon, the daily deal site, has held talks about an initial public offering (IPO) that would value it at as much as $25 billion, two people familiar with the matter said earlier this month.
Bubbles happen when investors pay more for an asset than it is fundamentally worth. Eventually, the over paying becomes unsustainable and the bubble pops. It is a greater fool’s theory. This is what happened in the last dot com bubble and this is what’s happening with housing. Now it is starting to happen in social networking. Twitter founders Evan Williams and Jack Dorsey have already sold hundreds of millions worth of shares in the company to investors. They no longer work at the company either – they know at some point the piped piper will knocking on the door and they are getting out while the party is still hot.
Buffet is warning about just that – eventually the investors in these adventures (I prefer adventures) will want to see a return. In Twitter’s case it can only do this by going public and selling its shares to public – reinforcing the greater fools theory. When it does so, public investors will be on the hook while Twitter founders and venture capitalist investors will be long gone.
Here is a comparison of valuations of some adventures between the last dot com bubble and the current social networking bubble that Buffet is alluding to. In 1999, 24 adventures had a valuation of $71 billion by comparison in 2011, 5 adventures have a valuation exceeding $71 billion. The NYTimes also has a piece on the bubble in social networking that is worth reading.