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Knowledge@Wharton, in an October 4th article, talks about the irrational exuberance in valuations of social networking sites like MySpace and Facebook. They compared it to the more stable business models of search engine companies like Google and Yahoo; ecommerce sites like Amazon and eBay. One example of such exuberance is the $900M offer for Facebook in 4th Quarter 2006.

“Last January, Facebook founder Mark Zuckerberg, now 22, reportedly turned down a $750 million offer from Viacom, holding out for $2 billion, according to news accounts. This fall he is said to be mulling over a $900 million offer from Yahoo. Those are big numbers considering that the business, started early in 2004, has a modest nine million users and is believed to have annual revenue of around $50 million, though some experts expect that to double soon. If Facebook were valued at 55 times earnings, it would need a $16 million profit to justify a $900 million price.“

I particularly like this point on the different types of advertising pricing models that makes argument for valuations based on the oft-quoted metrics of unique visitors and page views, irrelevant.

The problem, as Wharton accounting professor Robert W. Holthausen sees it, is a dearth of information to plug into the standard valuation models. “You have little data on what kind of revenues they can generate and what their cost structure is.”

Valuing advertising-driven sites is particularly hard because the same numbers — such as the number of users or page views — can mean different things depending on how the advertisers are billed, Holthausen adds. “How often do they get paid for that advertising? Is it just when the advertisement appears? Or does there have to be a click through?” Similarly, not every user has the same value. That depends on how much the typical user is likely to spend and what he or she is likely to buy. Finally, Holthausen notes, a site will be more valuable if it uses a proprietary technology than if it simply offers services competitors can easily duplicate.

The full article can be read here.