FACEBOOK AND WHATSAPP: ACQUIRE OR ALLY

9B14M107

FACEBOOK AND WHATSAPP: ACQUIRE OR ALLY?1 Meeta Dasgupta wrote this case solely to provide material for class discussion. The author does not intend to illustrate either effective or ineffective handling of a managerial situation. The author may have disguised certain names and other identifying information to protect confidentiality. This publication may not be transmitted, photocopied, digitized or otherwise reproduced in any form or by any means without the permission of the copyright holder. Reproduction of this material is not covered under authorization by any reproduction rights organization. To order copies or request permission to reproduce materials, contact Ivey Publishing, Ivey Business School, Western University, London, Ontario, Canada, N6G 0N1; (t) 519.661.3208; (e) cases@ivey.ca; www.iveycases.com. Copyright © 2014, Management Development Institute Gurgaon and Richard Ivey School of Business Foundation Version: 2014-09-02 It was February 2014, and Mark Zuckerberg and Jan Koumhad decided to work together, with the latter giving his consent to Facebook’s takeover of WhatsApp. Zuckerberg, founder of Facebook, believed WhatsApp was a company that would strategically fit Facebook’s business. He had decided that until 2018, he would allow WhatsApp to focus not on making money but on expanding its user base.2 Of the global population, 70 per cent was still without Internet access and access, according to Zuckerberg, “was growing slower than what many people in the Internet-connected world believed.”3 The Internet already connected the wealthiest members of the world’s population. Connecting further users and also reaping profits through them was perceived to be a challenge.4 WhatsApp had started with no users and no product. The company still had no marketing and had relied mostly on word of mouth to gather its 465 million active users. For Koum, India was a critical market and he had hoped to achieve the goal of having one billion WhatsApp users in India.5 Should WhatsApp sell its assets to Facebook? Should the company have insisted for an equity alliance instead? In the face of both positive and negative industry sentiments about the deal, both Zuckerberg and Koum were challenged to make the best of it. THE MOBILE COMMUNICATIONS INDUSTRY The mobile communications industry was witnessing heady growth, with more than half of the earth’s population using mobile communications by 2013. In addition, there were many who appreciated the various benefits of mobile technology but had no access to it. An AT Kearney report forecasted that by 2017, a further 700 million subscribers would be added and by 2018, the figure would exceed 4 billion. Surprisingly, although the over-18 age group was enthusiastic about smartphones, “globally the over-60 age group was growing faster than the total population.”6 Subscribers were growing four times faster than the global population (see Exhibit 1). Whereas on one hand the connections and subscriber growth in the developed markets was slowing down, emerging markets were becoming centres for growth in subscribers and mobile connections. The Asia Pacific region, with a share of just under 50 per cent of the global total, was leading. Declining prices and progressing disposable income was driving people to own and use mobile technology. New business models delivering services in communication and adjacent services emerged to take advantage of the continuously evolving technology and the falling average revenue per subscriber (see Exhibits 2 and 3). Strong value propositions to deliver new and innovative services to users were being

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Page 2 9B14M107 continuously developed by network operators. Competition among device manufacturers and operating system (OS) developers focused on driving innovation by building faster and lighter smartphones. With increasing use of smartphones, OS platforms —including Android, iOS and Windows — were driving the purchase decisions of customers. Demand for lower prices was forcing network infrastructure vendors to improve operational efficiency. Content providers were innovating hardware and software while a new community of developers was growing to deliver advanced services and products to consumers through mobile technology. The widespread deployment of mobile broadband networks and new technologies, such as 4G, combined with the advent of smartphones, led to a rocketing use of mobile data services. While 2G services were declining at a compound annual growth rate (CAGR) of 1 per cent, both 3G and 4G services were increasing at a CAGR of 20 per cent and 64 per cent, respectively. The total revenue of the mobile ecosystem was expected to reach US$2 trillion7 by 2017, with revenues of mobile operators contributing 1.4 per cent to global gross domestic product in 2012 (see Exhibit 4). Data was driving growth, with the maximum consumption being video content (see Exhibit 5).8 THE MESSAGING AND SOCIAL APPLICATIONS BUBBLE In 2013, the overall usage of mobile applications for smartphones saw a 115 per cent increase, primarily led by an explosion in use of messaging and social applications (See Exhibits 6 and 7). The year-over- year usage growth of the applications had been 203 per cent. “In all, Flurry Analytics tracked 1.126 trillion ‘app sessions’ in calendar 2013, with 4.7 billion sessions tracked on December 31 alone.”9 A report by British consultancy firm Ovum saw social messaging volumes surpass short messaging services (SMS) numbers in 2013, and the coming years were expected to produce a strong growth in traffic. Research firm Informa forecasted that global annual SMS revenues would fall from $120 billion in 2013, to $97 billion by 2018, due to increasing adoption of over-the-top messaging applications in developed and emerging markets.10 The mobile communications industry forecasted that due to growth in user base from more than1 billion in 2014, to 2.9 billion in 2017, the annual revenue generated by chat applications would increase from $1 billion in 2013, to almost $25 billion. Chat applications were increasingly evolving into advertising networks, games platforms and other services, especially in Asian countries where the messaging services had placed more emphasis on revenue generation; these services were evolving from just messaging services to full social services that were encroaching on the existing social network(s).11 According to analysts, increased revenue for messaging services was expected to come from advertising.12 Overall, the return on equity in the Internet software and services sector was 11.75 per cent in 2014.13 ABOUT FACEBOOK Established by Mark Zuckerberg in 2004, by November 2013, Facebook was valued at $113 billion and had 1.1 billion users worldwide who accessed its various applications on their phones.14 As of December 31, 2013, Facebook had 93 million users in India who accessed the world’s largest social networking site at least once a month and 31 million mobile users who visited the site daily.15 According to Eden Zoller, analyst at Ovum, “Zuckerberg has come a long way in the mobile world in a short time. When Facebook sold its shares to the public in an initial public offering (IPO) in May 2012, it literally had no mobile advertising revenues.”16 She further added that Facebook had a fairly strong mobile user base at IPO but it had failed to monetize those mobile users. With the market worried that the mobile business would not contribute to revenue, the shares of the company had slid. However, by the end of 2013, mobile devices brought in $1.2 billion in the last quarter and more than $3 billion over the

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Page 3 9B14M107 whole year.17 This accounted for 53 per cent of Facebook’s advertising revenue (see Exhibit 8). In 2013, it boasted of a return on equity of 11.39 per cent (see Exhibit 9).18 The company had acquired Instagram in 2012, for about $700 million, and had made a “failed bid to acquire the highly popular photo-sharing application Snapchat for what was then considered an astronomical sum of $3 billion.”19 In August 2013, to expand Internet access to 5 billion people, primarily in emerging markets, Facebook formed Internet.org with other technology companies such as Samsung Electronics Co., Nokia Ovj (NOK1V), and chipmaker Qualcomm Inc. Internet.org was intended to bring more people online by rolling out networks, developing projects and mobilizing the industry and government. Services — including social networks, messaging, food information and weather information that would eventually bring in revenue for carriers and Internet companies — would be provided. Zuckerberg was convinced that growth of the Internet.org initiative would not be affected by concerns about data security and government intervention.20 Facebook was becoming aware of increased competition from Google, Microsoft and Twitter and from mobile companies, smaller Internet companies and traditional online and media businesses. Competitive pressure was growing from regional social networks including “Cyworld in Korea, Mixi in Japan, Google-owned Orkut in Brazil and India, and vKontakte in Russia.”21 These companies offered a variety of Internet products, services, content, online advertising offerings and various other products that could compete with specific Facebook features. According to a Facebook representative:

Certain competitors, including Google, could use strong or dominant positions in one or more markets to gain competitive advantage against us in areas where we operate, including: by integrating competing social networking platforms or features into products they control, such as search engines, web browsers, or mobile device operating systems; by making acquisitions; or by making access to Facebook more difficult. As a result, our competitors may acquire and engage users at the expense of the growth or engagement of our user base, which may negatively affect our business and financial results.22

ABOUT WHATSAPP WhatsApp, a mobile messaging application, was started on February 24, 2009, by Jan Koum and Brian Action, both former Yahoo engineers.”23 They devised a simple process of connecting mobile users. According to Koum:

We were the first guys to do it; we were actually the first mover. Everybody else came in and tried to copy us, but they were not successful. We were global from day one. We focused on translations, [adding] Italian, German, Spanish [and] Russian into the applications from day one because we understood that it is the power of communication, which people want to communicate with people in other countries.We hired really smart people; our first set of engineers was extremely talented and allowed us to build a foundation that enabled us to build everything on top of it.24

In June 2009, Koum responded to Apple’s launch of push notifications with updates in WhatsApp. WhatsApp 2.0 was released with a messaging component and the number of active users suddenly swelled to 250,000. In October 2009, five ex-Yahoo employees invested $250,000 in seed funding. Chris Peiffer, an old friend of Koum, was hired to make the Blackberry version of WhatsApp. To delay the fast growth, WhatsApp was switched from a “free to paid service, the primary cost being sending verification texts to users.”25 In December 2009, WhatsApp was updated so that photos could be sent through iPhones. By early 2011, WhatsApp was ranked among the top 20 applications in the U.S. App Store.

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Page 4 9B14M107 Following months of negotiation with partner Sequoia Capital, the founders agreed to take $8 million from Sequoia to top their seed fund. By February 2013, WhatsApp’s user base had increased to approximately 200 million active users. After valuing WhatsApp at $1.5 billion, Sequoia invested another $50 million. Following a security glitch in May 2011, WhatsApp released a new version of the messenger application for iPhones. WhatsApp faced another controversy on January 6, 2012, when a hacker pointed out a security problem in the application by publishing a website that made it possible to change the status of an arbitrary WhatsApp user as long as the phone number was known. WhatsApp had to devise a solution to the problem by putting an IP-address check on the currently logged-in sessions. On January 13, 2012, with no reason being disclosed, WhatsApp was removed from the iOS App Store and later added back after four days. WhatsApp updates were also under scrutiny from security researchers when they noticed, in May 2012, that WhatsApp messages were no longer sent as plaintext. On August 15, 2012, the WhatsApp support staff claimed that the messages were encrypted in the latest version of the WhatsApp software for iOS and Android (but not BlackBerry, Windows Phone, and Symbian), without specifying the implemented cryptographic method.26 In January 2014, WhatsApp had 50 employees, with more than 30 of them being engineers. Although the company had its headquarters in the California city of Mountain View, Russia was the centre for most of its engineering work.27 Despite its modest size, WhatsApp was already handling an average of 19 billion messages per day, including about 600 million photos. WhatsApp’s messaging volumes surpassed that of traditional texts sent through the networks of cellphone carriers. While SMS generated about $100 billion in annual revenue, WhatsApp had an annual charge of just $1 after letting users use the application free for the first year.28 According to a Nielson report, three out of every four smartphone users used a chat application. In India,WhatsApp led the pack of the most popular applications with a 76 per cent reach; Facebook was in fifth place with a 52 per cent reach, and Chinese app WeChat was in 10th place, with a 22 per cent reach.29 WhatsApp’s audience of 450 million users had expanded at a pace faster than that of Facebook, reportedly adding one million users every day. It was estimated that WhatsApp would reach a figure of one billion users by 2015. More than 70 per cent of its users returned to the application on a daily basis — levels of engagement unheard of in Internet circles.30 The messaging application offered services very similar to Facebook: group chats, photo sharing, status updates, shared links and audio files. However, while Facebook faced the challenge of user attrition primarily due to privacy-related concerns, WhatsApp messages were private between the sender and receiver.31 Yet WhatsApp still faced various security and privacy concerns from governments and telecommunication authorities — including the Canadian and Dutch governments and the Communications and Technology Commission of Saudi Arabia. The primary concern was that users had to upload their mobile phone’s entire address book to WhatsApp servers in order to discover who was available via WhatsApp.32 Although on the surface WhatsApp and Facebook appeared to hold divergent views on certain subjects, Koum and Zuckerberg shared a vision of connecting the world to the Internet, delivering development benefits and, in the longer term, achieving profits too. Unlike Facebook, however, WhatsApp’s revenue business model was based on texting; it displayed no ads.33 Exilway Global, the world’s biggest emerging markets private equity fund, valued WhatsApp at $11 billion in November 2013. Twitter, which possessed more than 500 million active users globally, was valued at slightly less than $20 billion.34 When asked by a reporter about competition from messaging applications such as Line, KakaoTalk, Viber and WeChat, Koum replied that he had no fear someone would build a better message/photo-sharing platform and make WhatsApp irrelevant. According to Koum, WhatsApp’s competitive advantage was based on its product: “We have always had people copy us. It is not shocking — if anything it is

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http://www.livemint.com/Search/Link/Keyword/WeChat

 

Page 5 9B14M107 flattering. But what is important for us is to continue to get our product right. I spend more time worrying about ourselves, [and] that we are doing the right thing.”35 While promoting games and rushing to build platforms was the focus of its competitors, WhatsApp remained devoted to a clean, fast communication service that worked flawlessly (see Exhibit 10). By using the Internet as its communications backbone, WhatsApp had completely transformed personal communications, which were previously dominated by the world’s largest wireless carriers.36 THE DEAL It took the market and the technology industry by surprise when Zuckerberg announced Facebook’s decision to acquire WhatsApp for a staggering price of $19 billion on February 19, 2014 — the latter’s revenues were estimated to be just $20 million for 2013. The founders and employees of WhatsApp were given $4 billion in cash, $12 billion in shares and $3 billion in restricted stock units. The restricted stock units that employees had been given were to stay with the company until 2018.37 The sum represented more than Facebook had ever paid for a company.38 Facebook had spent 35 per cent of its cash on hand on the deal.39 The merger agreement provided Facebook to pay WhatsApp a fee of $1 billion in cash, in the event of failure to obtain regulatory approvals.40 Although Zuckerberg and Koum had known each other for years, the Facebook-WhatsApp deal was worked out in eleven days. Aligning for the Internet.org project had given them the idea of combining their companies. Facebook’s deal to pay $19 billion for WhatsApp closely followed the $900 million purchase of another messaging service, Viber, by Japanese Internet giant Rakuten. A $3 billion offer from Facebook had been turned down by California-based messaging firm SnapChat.41 According to Benedict Evans, a former cellphone analyst who was then a partner with the venture capital firm Andreessen Horowitz, “This is a ‘go big or go home’ moment for Facebook.”42 Facebook’s social network of 1.2 billion active users would be united with WhatsApp’s 450 million users. According to Zuckerberg:

I just think that by itself it is worth more than $19 billion . . . I could be wrong. This could be the one service that gets to a billion people and ends up not being that valuable. [But] I do not think I am [wrong]. . . . Other Android messaging applications such as KakaoTalk, Vine and WeChat were already bringing in $2 to $3 a person with pretty early efforts. . . . That shows that if we can do a pretty good job of helping WhatsApp to grow then this is just going to be a huge business…. In partnership with Facebook, WhatsApp can focus on connecting one, two, three billion people over the next however long that is going to take.43

WhatsApp was placed at the same value as Gap Inc. but more than half the market value of Twitter Inc., a microblogging service. According to Koum, he felt flattered to be invited onto the board of Facebook by Zuckerberg:

[We] probably did not expect success to this level. The size of the deal shows how important communication is in today’s world. Communication is at the very core of our society. That is what makes us human. We talked about this as a partnership and not as an acquisition. WhatsApp will continue to remain independent. There are no changes planned to the product. Nothing really changes from the user point of view. [S]o when we were talking about this deal, we were not as interested in terms of the numbers but as a partnership between two great companies who share the same vision. . . . Mark really understands that for WhatsApp to be successful it really needs to stay independent.44

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Page 6 9B14M107 According to Zuckerberg, if Facebook had not acquired WhatsApp, the latter would have been under increased pressure to eventually focus more on revenue models and monetization over the near term rather than on the company’s continued growth.45 REACTIONS AFTER ANNOUNCEMENT OF THE DEAL Analysts felt that many more such deals would follow. The industry had realized that messaging had become the most sought after application as it enabled mobile phone users around the globe to be dependent on their local carriers to communicate freely worldwide.46 Declan Lonergan, analyst at Yankee group, said, “Facebook’s valuation of WhatsApp is shockingly high, but so too is the risk of being left behind as these apps become dominant platforms for communication, media distribution, social engagement and advertising.”47 Analysts at research firm Trefis reported, “‘[M]obile messaging is here to stay, even though the growth in social networking industry might slow down.’ WhatsApp filled an important gap in Facebook’s portfolio.”48 Employees at Facebook said they had a moment of envy when they thought about the enormous payout WhatsApp employees would get. Others said it made them reconsider their jobs. They were, nevertheless, of the opinion that the deal was a long term win.49 Facebook’s shares fell as much as 3.4 per cent in early trading after announcement of the deal, thereby reducing the company’s market capitalization by billions; however, by end of the trading day the shares had bounced back, erasing earlier losses (see Exhibits 11 and 12).50 It was feared the deal would shake the bigger market for mobile communications with voice calls, images and video, similar to what YouTube did to the online video industry in 2006, after being bought out by Google.51 The industry was rife with reports that Google had also been in active discussion to buy out WhatsApp with a bid of $10 billion.52 Other reports alleged that Google was willing to top Facebook’s $19 billion offer. Google’s chief executive officer (CEO), Larry Page, had even assured Koum that Google would allow WhatsApp to operate independently and compete with Facebook.53 All focus in the industry was on start-ups that had invented a service and circulated it around the world, especially in places such as Asia. Some of the services included China-based WeChat, Japan’s Line and South Korea’s KakaoTalk, which were all gradually turning their attention to global markets. The messaging services, through the use of Internet or IP communications, could help users bypass telecom carriers and their fees for SMS — a global market worth tens of billions of dollars.54 In India, the Facebook-WhatsApp deal faced hurdles. The deal was at risk of coming under detailed scrutiny by the country’s fair trade regulator, the Competition Commission of India (CCI), as both players had significant presence in India. All mergers and acquisition deals involving companies having an Indian presence had to be approved by CCI, which had the mandate to prevent unfair trade practices in the market place.55 On the other hand, a United States-based privacy group had asked the Federal Trade Commission (FTC) to review and, if required, block the Facebook-WhatsApp deal in order to guard the privacy of more than 450 million users who had installed the application on their phones. The Electronic Privacy Information Centre (EPIC), in its complaint to the FTC on March 6, 2014, had said that Facebook regularly collected all data on its users, which exposed WhatsApp users to privacy risks. WhatsApp had built a user base by committing not to collect user data for advertising revenue. Conversely, Facebook routinely made use of user information for advertising purposes and had made it clear that it intended to incorporate data of WhatsApp users into the user profiling business model, thus violating users’understanding of exposure to online advertising. According to EPIC, “WhatsApp users could not reasonably have anticipated that by selecting a pro-privacy messaging service, they would subject their data to Facebook’s data collection practices.”56

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Page 7 9B14M107 This controversy had users worried about their privacy. As one user tweeted, “I guess it is time to move on and uninstall WhatsApp now that Facebook is buying it. I do not like the idea of one company controlling social media and online chat apps, it feels like Big Brother is watching me.”57 Zuckerberg clarified on the issue of privacy and claimed that WhatsApp did not store messages and other content shared by users on the instant messaging service.58 Additionally, on February 22, 2014, WhatsApp suffered an outage for more than three hours that frustrated users just days after the acquisition. Server issues were reported to be the problem. Some users took to other forms of social media, including blogs and Twitter, to report the outage and vent frustration. Twitter buzzed with messages that it was part of Facebook’s conspiracy to shut down WhatsApp and divert users to Facebook Chat.59 WHATSAPP’S ASPIRATIONS To be on par with key competitor Viber, WhatsApp planned to launch free voice calls by mid-year. According to Koum, “We are driven by the mission that people should be able to stay in touch anywhere and affordably. Our goal is to be on every mobile phone in the world.”60 Koum also stressed that his company had no plans to add advertising or marketing to the service and that its staff of 55 was unlikely to grow much.61 Their emphasis would be to ensure that voice calls worked just as well. According to him, “I understand that there are bandwidth constraints and network constraints, but we will take the same approach to voice [calls] that we took to [messaging] five years ago, which is focus on quality, simplicity [and] performance so that it is the world standard for voice just as messaging is the world standard.”62 Mobile phone operators were beginning to feel threatened by WhatsApp’s plans to diversify into voice calls. They feared that the success of any such voice services over the Internet could severely dent voice revenue, which still accounted for the majority of overall revenue for telecom service providers. However, in one CEO’s opinion, voice services over the Internet would face enormous challenges in connectivity: “If [WhatsApp’s] overall revenue stream shifts to [the Internet], the connectivity part of that equation is at risk, and without connectivity, you can just forget everything on the IP space. . . . This arena is only just [starting] to be debated. So how it will play out remains to be seen.”63 The decision to enter voice services would also put WhatsApp in competition with telecom operators globally. According to market researcher Ovum, telecom operators were worried as text messaging was a $120 billion business for them.64 Koum, however, had other plans. He sought to cast himself as a partner to telecom operators and not simply a competitor. He planned to launch a WhatsApp branded mobile service in Germany in partnership with KPN’s E-Plus. As he said, “We are working with carriers in established markets to bring value to end users.”65 FUTURE OUTLOOK Zuckerberg defended his decision to spend a huge sum of money on WhatsApp. Although he was optimistic that WhatsApp was worth more than the amount paid, he was apprehensive that he might have overestimated WhatsApp’s growth trajectory.66 By allowing WhatsApp to function independently, would he be able to recover the money he had committed to paying for it? How would he monetize on WhatsApp’s users if he let WhatsApp continue with the same business model? Koum was satisfied with the deal and found it rewarding but his focus was still to improve and grow WhatsApp’s reach in various critical markets.67 Would WhatsApp be allowed to function independently? Under the new management, what were the future prospects of the company?

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Page 8 9B14M107

EXHIBIT 1: TOTAL SUBSCRIBERS (IN BILLIONS)

Source: AT Kearney, “The Mobile Economy 2013”, www.atkearney.com/documents/10192/760890 /The_Mobile_Economy_2013.pdf, February 27, 2014.

EXHIBIT 2: AVERAGE REVENUE PER SUBSCRIBER BY REGION (US$ PER MONTH)

2008 2009 2010 2011 2012 Africa 18.6 15.8 16.2 15.4 14.8 Asia Pacific 15.8 13.7 14.7 13.5 14.3 Latin America 26.7 24.0 24.9 23.9 24.1 Middle East 24.7 27.3 27.6 26.5 26.7 Europe 53.5 51.1 50.6 47.1 44.1 North America 62.0 61.9 62.8 63.4 64.8 Others 19.4 13.7 13.4 13.0 12.5

Source: AT Kearney, “The Mobile Economy 2013”, www.atkearney.com/documents/10192/760890 /The_Mobile_Economy_2013.pdf, February 27, 2014.

EXHIBIT 3: AVERAGE GLOBAL CONNECTION SPEED (MKBPS)

Source: AT Kearney, “The Mobile Economy 2013”, www.atkearney.com/documents/10192/760890 /The_Mobile_Economy_2013.pdf, February 27, 2014.

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EXHIBIT 4: MOBILE NETWORK OPERATORS REVENUES (US$ BILLION)

Source: AT Kearney, “The Mobile Economy 2013”, www.atkearney.com/documents/10192/760890 /The_Mobile_Economy_2013.pdf, February 27, 2014.

EXHIBIT 5: EXPLOSION OF MOBILE SUBSCRIBER

Source: A T Kearney, “The Mobile Economy 2013”, www.atkearney.com/documents/10192/760890 /The_Mobile_Economy_2013.pdf, February 27, 2014.

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Page 10 9B14M107 EXHIBIT 6: GLOBAL AVERAGE REVENUE PER DATA SERVICES AND SOCIAL MEDIA ($/MONTH)

 

Source: AT Kearney, “The Mobile Economy 2013”, www.atkearney.com/documents/10192/760890 /The_Mobile_Economy_2013.pdf, February 27, 2014.

EXHIBIT 7: PORTABLE DEVICES CONSUMERS MOST WANT TO PURCHASE (DEVEPOLED MARKETS) – IN %

 

Source: AT Kearney, “The Mobile Economy 2013”, www.atkearney.com/documents/10192/760890 /The_Mobile_Economy_2013.pdf, February 27, 2014.

EXHIBIT 8: FACEBOOK’S ADVERTISING AVERAGE REVENUR PER USER68

Note: These figures include the advertising revenues for the first three quarters of 2013. Source: John Koetsier, “Facebook Grows Per-user Revenue in Every Single Global Territory”, http://venturebeat.com/2013/10/30/facebook-grows-per-user-revenue-in-every-single-global-territory/, accessed February 27, 2014.

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EXHIBIT 9: FACEBOOK FINANCIALS

2009 2010 2011 2012 2013 Sales/Revenue 777M 1.97B 3.71B 5.09B 7.87B Sales Growth – 154.05% 87.99% 37.13% 54.69% Cost of Goods Sold (COGS) incl. D&A 223M 493M 860M 1.36B 1.9B COGS excluding D&A 145M 354M 537M 715M 892M Depreciation & Amortization Expense 78M 139M 323M 649M 1.01B Depreciation 76M 130M 303M 571M 866M Amortization of Intangibles 2M 9M 20M 78M 145M COGS Growth – 121.08% 74.44% 58.60% 39.52% Gross Income 554M 1.48B 2.85B 3.73B 5.97B Gross Income Growth – 167.33% 92.51% 30.66% 60.24% Gross Profit Margin – – – – 75.83% SG&A Expense 292M 449M 1.1B 3.19B 3.05B Research & Development 87M 144M 388M 1.4B 1.42B Other SG&A 205M 305M 707M 1.79B 1.63B SGA Growth – 53.77% 143.88% 191.05% -4.36% Other Operating Expense 0 0 0 0 0 Unusual Expense 0 0 0 0 117M EBIT after Unusual Expense 0 0 0 0 (117M) Non Operating Income/Expense 2M (2M) (19M) (7M) (13M) Non-Operating Interest Income – – – 14M 19M Equity in Affiliates (Pretax) 0 0 0 0 0 Interest Expense 10M 22M 42M 51M 56M Interest Expense Growth – 120.00% 90.91% 21.43% 9.80% Gross Interest Expense 10M 22M 42M 51M 56M Interest Capitalized 0 0 0 – – Pretax Income 254M 1.01B 1.7B 494M 2.75B Pretax Income Growth – 296.85% 68.15% -70.86% 457.49% Pretax Margin – – – – 34.98% Income Tax 25M 402M 695M 441M 1.25B Income Tax – Current Domestic 97M 382M 724M 604M 1.22B Income Tax – Current Foreign 1M 1M 8M 22M 68M Income Tax – Deferred Domestic (73M) 19M (37M) (178M) (35M) Income Tax – Deferred Foreign 0 0 0 (7M) (2M) Income Tax Credits 0 0 0 0 0 Equity in Affiliates 0 0 0 0 0 Other After Tax Income (Expense) (107M) (234M) (332M) (21M) (9M) Consolidated Net Income 122M 372M 668M 32M 1.49B Minority Interest Expense 0 0 0 0 0 Net Income 122M 372M 668M 32M 1.49B Net Income Growth – 204.92% 79.57% -95.21% 4,559.38% Net Margin Growth – – – – 18.94% Net Income After Extraordinaries 122M 372M 668M 32M 1.49B Preferred Dividends 0 0 0 0 0 Net Income Available to Common 122M 372M 668M 32M 1.49B EPS (Basic) 0.06 0.17 0.31 0.02 0.62 EPS (Basic) Growth – 204.73% 79.54% -93.60% 3,000.00% Basic Shares Outstanding 2.14B 2.14B 2.14B 2.01B 2.42B EPS (Diluted) 0.06 0.17 0.31 0.01 0.60 EPS (Diluted) Growth – 204.73% 79.54% -96.80% 5,900.00% Diluted Shares Outstanding 2.14B 2.14B 2.14B 2.17B 2.52B EBITDA 340M 1.17B 2.08B 1.19B 3.93B EBITDA Growth – 244.41% 77.54% -42.91% 231.26% EBITDA Margin – – – – 49.95%

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EXHIBIT 9 (CONTINUED) Assets

2009 2010 2011 2012 2013 Cash & Short Term Investments 633M 1.79B 11.36B 9.63B 11.45B Cash Only 633M – 8.97B 1.51B 1.04B Short-Term Investments – – 2.4B 8.11B 10.41B Cash & Short Term Investments Growth – 181.99% 536.58% -15.29% 18.94% Cash & ST Investments / Total Assets 57.08% 59.70% 82.42% 63.74% 63.98% Total Accounts Receivable – 373M 547M 1.17B 1.16B Accounts Receivables, Net – 373M 547M 719M 1.11B Accounts Receivables, Gross – 384M 564M 741M 1.15B Bad Debt/Doubtful Accounts – (11M) (17M) (22M) (38M) Other Receivables – 0 0 451M 51M Accounts Receivable Growth – – 46.65% 113.89% -0.85% Accounts Receivable Turnover – 5.29 6.78 4.35 6.79 Inventories – 0 0 0 0 Finished Goods – 0 0 0 0 Work in Progress – 0 0 0 0 Raw Materials – 0 0 0 0 Progress Payments & Other – 0 0 0 0 Other Current Assets – 88M 149M 471M 461M Miscellaneous Current Assets – 88M 149M 471M 461M Total Current Assets – 2.25B 12.06B 11.27B 13.07B Net Property, Plant & Equipment 148M 574M 1.48B 2.39B 2.88B Property, Plant & Equipment – Gross – 820M 1.93B 3.27B 4.14B Buildings – 0 355M 594M 1.07B Land & Improvements – 29M 34M 36M 45M Computer Software and Equipment – 61M 73M 93M 95M Other Property, Plant & Equipment – 58M 120M 194M 203M Accumulated Depreciation – 246M 450M 882M 1.26B Total Investments and Advances – 0 0 0 0 Other Long-Term Investments – 0 0 0 0 Long-Term Note Receivable – 0 0 0 0 Intangible Assets – 96M 162M 1.39B 1.72B Net Goodwill – 37M 82M 587M 839M Net Other Intangibles – 59M 80M 801M 883M Other Assets 961M 74M 90M 57M 221M Tangible Other Assets – 74M 90M 57M 221M Total Assets 1.11B 2.99B 13.79B 15.1B 17.9B Assets – Total – Growth – 169.61% 361.07% 9.55% 18.49%

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EXHIBIT 9 (CONTINUED) Liabilities & Shareholders Equity

2009 2010 2011 2012 2013 ST Debt & Current Portion LT Debt – 106M 279M 365M 239M Short Term Debt – 0 0 0 0 Current Portion of Long Term Debt – 106M 279M 365M 239M Accounts Payable – 104M 234M 65M 268M Accounts Payable Growth – – 125.00% -72.22% 312.31% Income Tax Payable – – – – – Other Current Liabilities – 179M 386M 622M 593M Dividends Payable – 0 0 – – Accrued Payroll – – – 146M 196M Miscellaneous Current Liabilities – 179M 386M 476M 397M Total Current Liabilities – 389M 899M 1.05B 1.1B Long-Term Debt – 367M 398M 1.99B 237M Long-Term Debt excl. Capitalized Leases – 250M 0 1.5B 0 Non-Convertible Debt – 250M 0 1.5B 0 Convertible Debt – 0 0 0 0 Capitalized Lease Obligations – 117M 398M 491M 237M Provision for Risks & Charges – – 60M 100M – Deferred Taxes – – – 0 0 Deferred Taxes – Credit – – – – – Deferred Taxes – Debit – – – 0 0 Other Liabilities 241M 72M 75M 205M 1.09B Other Liabilities (excl. Deferred Income) 241M 72M 75M 205M 1.09B Deferred Income – 0 0 – – Total Liabilities 241M 828M 1.43B 3.35B 2.43B Non-Equity Reserves – 0 0 0 0 Total Liabilities / Total Assets 21.73% 27.69% 10.39% 22.17% 13.55% Preferred Stock (Carrying Value) – 0 0 0 0 Redeemable Preferred Stock – 0 0 0 – Non-Redeemable Preferred Stock – 0 0 0 – Common Equity (Total) 868M 2.16B 12.35B 11.76B 15.47B Common Stock Par/Carry Value – – – 0 0 Retained Earnings – – 1.17B 1.66B 3.16B ESOP Debt Guarantee – – 0 0 0 Cumulative Translation Adjustment/Unrealized For. Exch. Gain – – (7M) – –

Unrealized Gain/Loss Marketable Securities – – 0 0 0 Revaluation Reserves – – 0 0 0 Treasury Stock – – 0 0 0 Common Equity / Total Assets 78.27% 72.31% 89.61% 77.83% 86.45% Total Shareholders’ Equity 868M 2.16B 12.35B 11.76B 15.47B Total Shareholders’ Equity / Total Assets 78.27% 72.31% 89.61% 77.83% 86.45% Accumulated Minority Interest – 0 0 0 0 Total Equity 868M 2.16B 12.35B 11.76B 15.47B Liabilities & Shareholders’ Equity 1.11B 2.99B 13.79B 15.1B 17.9B

Source: www.marketwatch.com/investing/stock/fb/financials,accessed April 3, 2014. Au

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EXHIBIT 10: WHATSAPP’S COMPETITORS Line According to analysts, the earning potential for Line, Japan’s most popular messaging application, remained underappreciated. It had the biggest revenue opportunity from a games/advertising perspective because its home base of Japan was the largest mobile games market in the world and 85 per cent of its user base was outside Japan, which could be monetized by the application. According to Reuters, Line had brought in around $335 million in revenue in 2013, and it was estimated that by 2017, it would generate $2.2 billion. Line was continuously expanding its services, offered next to its core messaging service, to utilities, radio, ecommerce (C2C, B2C), calls and sponsored accounts (such as on Twitter).69 It had witnessed a 48 per cent growth in its user base.70 As reported in October 2013, the estimated value of Line could be put at anywhere from $8 to $10 billion.71 KakaoTalk The revenues of telecom operators had taken a hit in recent years with South Korea’s KakaoTalk offering a free alternative to text messaging. KakaoTalk provided free call and text messaging services. Users could also share diverse content and information, from photos, videos, voice messages, and URL links to contact information. Both one-on-one and group chats were available over wifi or 3G, and there were no limits to the number of friends who could join in group chat.72 There was a gaming feature that allowed one to buy physical gifts within the application and have them sent to friends, a feature Facebook tried in 2013 that had failed.73 It had 133 million registered users and was prepping a $2 billion IPO backed by Morgan Stanley and Samsung Securities. Whereas WhatsApp dominated many Western countries, the founder of KakaoTalk was targeting the rest of the world, with Indonesia being the current battleground. As in October 2013, the estimated value of the company was around $1.5 billion to $2 billion.74 According to the CEO Sirgoo Lee, “We are going different directions from WhatsApp. If you want a pure messaging service, WhatsApp is for you. There is more to offer than just texting, such as games and mobile commerce.”75 WeChat Wechat, a mobile text and voice messaging application developed by Tencent in China, was available on different platforms including Android, iPhone, Blackberry, Windows Phone, Symbian and OSX, and supported different languages.76 The combined monthly active users of WeChat and Weixin (the version available in China) had reached 355 million as of end 2013, an increase of 121 per cent year-on-year and up 6 per cent quarter-on-quarter. Although WeChat dominated in China, it was intensifying efforts to attract overseas users. It had doubled its international footprint to 100 million users in three months in 2013, and early in 2014, it had passed 100 million downloads on GooglePlay internationally. Parent firm Tencent had plans of supporting a broader portfolio of associated applications spanning activities such as games, entertainment, information and utilities. It planned to leverage Official Accounts and Weixcin Payment to explore online-to-offline and mobile e-commerce opportunities in China. In 2014, the company’s focus was on ramping up its online video services.77 The estimated value of WeChat was $30 billion or $95 per user.78 Source: Created by author.

 

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EXHIBIT 11: FACEBOOK SHARE PRICE (IN US$)

Source: www.google.com/finance/historical?Q=NASDAQ:FB.

EXHIBIT 12: FACEBOOK – VOLUME OF SHARES TRADED (IN MILLION $)

Source: www.google.com/finance/historical?Q=NASDAQ:FB.

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Page 16 9B14M107 ENDNOTES

1 The case has been written on the basis of published sources only. Consequently, the interpretation and perspectives presented in this case are not necessarily those of Facebook or WhatsApp. 2 Mark. Prigg, “How To Celebrate Facebook Style: Mark Zuckerberg And WhatsApp Founder Jan Koum Celebrate $19billion Deal With Psy In Barcelona,” February 25, 2014, www.dailymail.co.uk/sciencetech/article-2567663/How-celebrate- Facebook-style-Mark-Zuckerberg-whatsapp-founder-Jan-Koum-party-Psy.html, accessed April 7, 2014. 3 Barbara. Ortutay, “Zuckerberg Takes Long View With WhatsApp, Internet,” February 24, 2014, http://bigstory.ap.org/article/zuckerberg-talks-whatsapp-internet-access-all, accessed February 27, 2014. 4 Prigg, op. cit. 5 Romit Guha, “We Want A Billion Indians On WhatsApp, Says Cofounder Jan Koum,” February 26, 2014 http://economictimes.indiatimes.com/opinion/interviews/we-want-a-billion-indians-on-whatsapp-says-co-founder-jan- koum/articleshow/31009771.cms?curpg=2, accessed February 26, 2014. 6 Deloitte, The State Of The Global Mobile Consumers, 2013, www.deloitte.com/content/dam/Deloitte/global/Documents/Technology-Media-Telecommunications/dttl_TMT- GMCS_January%202014.pdf, accessed April 7, 2014. 7 All figures in US$, unless otherwise indicated. 8 AT Kearney, The Mobile Economy 2013, www.atkearney.com/documents/10192/760890/The_Mobile_Economy_2013.pdf, accessed April 7, 2014. 9 Neil. Hughes, “Mobile App Use Surged 115% in 2013, Messaging and Social Apps Saw Most Growth,” February 13, 2014, http://appleinsider.com/articles/14/01/13/app-use-surged-115-in-2013-messaging-social-apps-saw-most-growth, accessed March 24, 2014. 10 “WhatsApp Deal Shows Stunning Growth Of Messaging Apps,” February 24, 2014. www.ndtv.com/article/world/whatsapp- deal-shows-stunning-growth-of-messaging-apps-487239, accessed February 27, 2014. 11 Ansuya Harjani, “Just How Big Will the Messaging App Industry Get,” March 9, 2014, www.cnbc.com/id/101474726, accessed March 24, 2014. 12 Ibid 13 Return on Equity by Sector, http://pages.stern.nyu.edu/~adamodar/New_Home_Page/datafile/roe.html, accessed April 9, 2014. 14 “Exilway Private Equity Estimates WhatsApp Valuation at US$11 billion, Intends to Pick Stake,” November 13, 2013, http://finance.yahoo.com/news/exhilway-private-equity-estimates-whatsapp-130300090.html, accessed March 28, 2014. 15 Leslie. D. Monte, “With WhatsApp Facebook Gets a Younger Mobile Face in India,” February 20, 2014, www.livemint.com/Companies/D6PFnundapshHqz8lTvI5L/With-whatsapp-Facebook-gets-younger-mobile-face-in-India.html, accessed April 9, 2014. 16 “MWC2014: WhatsApp’s Worth Is More Than $19 Billion, Facebook CEO Mark Zuckerberg Says,” http://timesofindia.indiatimes.com/tech/tech-news/internet/MWC2014-whatsapps-worth-is-more-than-19-billion-Facebook- CEO-Mark-Zuckerberg-says/articleshow/30962384.cms, accessed February 27, 2014. 17 Cornelius. Rahn, “Mark Zuckerberg Says WhatsApp Worth More Than $19 Billion, February 25 2014, www.bloomberg.com/news/2014-02-24/zuckerberg-seeks-phone-partners-in-quest-to-connect-billions.html, accessed February 27, 2014. 18 Facebook Inc., http://csimarket.com/stocks/FB-Return-on-Equity-ROE.html, accessed April 16, 2013. 19 Rahn, op. cit. 20 Ibid. 21 Chloe. Albanesius, “Facebook Names Google, Twitter, Microsoft as Major Rivals, February 2, 2012, www.pcmag.com/article2/0,2817,2399738,00.asp, accessed April 11, 2014. 22 Brian. Womack, “Facebook Cites Google+ with Mobile Shift Among Potential Risks,” February 8, 2012, www.businessweek.com/news/2012-02-08/facebook-cites-google-with-mobile-shift-among-potential-risks.html, accessed April 11, 2014. 23 Amit. Chowdhury, “WhatsApp Hits 500 Million Users,” April 22, 2014, www.forbes.com/sites/amitchowdhry/2014/04/22/whatsapp-hits-500-million-users/, accessed February 27, 2014. 24 Guha, op. cit. 25 Pam Olson, “Exclusive: The Rags-to-Riches Tale of how Jan Koum built WhatsApp into Facebook’s New $19 billion baby”. February 19, 2014, www.forbes.com/sites/parmyolson/2014/02/19/exclusive-inside-story-how-jan-koum-built- whatsapp-into-facebooks-new-19-billion-baby/, accessed February 27, 2014. 26 Ibid. 27 “10 Things to Know AboutWhatsApp and Its Future with Facebook,” February 20, 2014, www.hindustantimes.com/technology/socialmedia-updates/10-things-you-should-know-about-whatsapp/article1- 1186201.aspx, accessed February 27, 2014. 28 Michael Liedtke. “Does WhatsApp Deal Show Facebook What’s Up”, February 20, 2014, http://news.yahoo.com/does- whatsapp-deal-show-facebook-knows-39-222513541–finance.html, accessed February 27, 2014. 29 “With WhatsApp Facebook Gets a Younger Mobile Face in India,” http://iimtallinone.blogspot.in/2014/02/with-whatsapp- facebook-gets-younger.html, accessed March 24, 2014. 30 Ibid.

 

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31 Sharad. Raghavan, “WhatsApp Deal: Facebook’s Future Lies in Investing in R&D,” February 24, 2014, http://articles.economictimes.indiatimes.com/2014-02-24/news/47635885_1_whatsapp-criticism-facebook-messaging-app, accessed February 27, 2014. 32 WhatsApp, op. cit. 33 Guha, op. cit. 34 “Exilway Private Equity Estimates WhatsApp Valuation at US$11 billion, Intends to Pick Stake,” op. cit. 35 Jim. Goetz, “Four Numbers that Explain Why Facebook Acquired WhatsApp,” http://sequoiacapital.tumblr.com/post/77211282835/four-numbers-that-explain-why-facebook-acquired, accessed February 27, 2014. 36 Ibid. 37 Julliane. Pepitone, “Mark Zuckerberg: $19 Billion for WhatsApp is Cheap,” February 25, 2014, www.nbcnews.com/tech/social-media/mark-zuckerberg-19-billion-whatsapp-cheap-n37401, accessed February 27, 2014. 38 Raghavan, op. cit. 39 Mark. Isaac, “Don’t Expect Facebook’s WhatsApp to Make Any Real Money for Years,” February 24, 2014, http://recode.net/2014/02/24/dont-expect-facebooks-whatsapp-to-make-any-real-money-for-years/, accessed February 27, 2014 40 “10 Things to Know About WhatsApp and Its Future with Facebook”, op. cit. 41 “WhatsApp Deal Shows Stunning Growth of Messaging Apps,” op. cit. 42 Liedtke, op. cit. 43 “MWC2014: WhatsApp’s Worth Is More than $19 Billion, Facebook CEO Mark Zuckerberg Says,” op. cit. 44 Ibid. 45 Isaac, op. cit. 46 “WhatsApp Deal Shows Stunning Growth of Messaging Apps,” op. cit. 47 Ibid. 48 Ibid. 49 Jillian D’Onfro, “Here’s How Facebook Employees Really Feel About the WhatsApp Acquisition”, February, 24, 2014, www.businessinsider.com/facebook-employees-whatsapp-acquisition-2014-2, accessed February 27, 2014. 50 Dominic. Rushe, “WhatsApp: Facebook Stock Slides Then Recovers AfterNews of $19 Billion Deal,” February 21, 2014, www.theguardian.com/business/2014/feb/20/facebook-whatsapp-shares-stock-fall-acquisition-reaction, accessed March 28, 2014. 51 “WhatsApp Deal Shows Stunning Growth of Messaging Apps,” op. cit. 52 Gaurav Choudhary, “A Bold Move, A Calculated Risk: Facebook, WhatsApp and Game Theory,” February 26, 2014,www.hindustantimes.com/business-news/a-bold-move-a-calculated-risk-facebook-whatsapp-and-game-theory/article1- 1188219.aspx, accessed February 27, 2014. 53 “Google Was Ready to Pay More than $19 Billion for WhatsApp: Report,” February 21, 2014, http://timesofindia.indiatimes.com/tech/tech-news/internet/Google-was-ready-to-pay-morethan-19-billion-for-whatsapp- Report/articleshow/30781810.cms, accessed February 27, 2014. 54 “WhatsApp Deal Shows Stunning Growth of Messaging Apps,” op. cit. 55 Jawed Anwer, “FB-WhatsApp Deal May Come under Lens,” Times of India, March 10, 2014. 56 Alexei Oreskovic, “Privacy Groups Ask Regulators to Halt Facebook’s $19 Billion WhatsApp Deal,” March 6, 2014, www.reuters.com/article/2014/03/06/facebook-whatsapp-idUSL1N0M328A20140306, accessed February 27, 2014. 57 Anwer, “FB-WhatsApp Deal May Come under Lens,” op. cit. 58 Jawed Anwer, “Ahead of WhatsApp-Facebook Deal Approval, Concerns over Privacy of Users,” March 9, 2014, http://timesofindia.indiatimes.com/tech/tech-news/Ahead-of-whatsapp-Facebook-deal-approval-concerns-over-privacy-of- users/articleshow/31747910.cms, accessed April 9, 2014. 59 “WhatsApp Services Restored after Brief Outage,” February 23, 2014, http://timesofindia.indiatimes.com/tech/tech- news/internet/whatsapp-service-restored-after-brief-outage/articleshow/30879704.cms, accessed February 27, 2014. 60 “WhatsApp First New Feature Under Facebook: Voice Calls,” February 24, 2014, http://timesofindia.indiatimes.com/tech/tech-news/software-services/whatsapps-first-new-feature-under-Facebook-Voice- calls/articleshow/30951210.cms, accessed February 27, 2014. 61 Prigg, op. cit. 62 Guha, op. cit. 63 “WhatsApp in Voice a Threat for Telecom Operators: Telenor CEO John Fredrik Baksaas,” February 26, 2014, http://economictimes.indiatimes.com/news/news-by-industry/telecom/whatsapp-in-voice-a-threat-for-telecom-operators- telenor-ceo-jon-fredrik-baksaas/articleshow/31008686.cms, accessed February 27, 2014. 64 “WhatsApp First New Feature Under Facebook: Voice Calls,” op. cit. 65 Ibid. 66 “MWC2014: WhatsApp’s Worth Is More than $19 Billion, Facebook CEO Mark Zuckerberg Says,” op. cit. 67 Guha, op. cit. 68 “Facebook Grows Per User Revenue in Every Single Global Territory,” http://venturebeat.com/2013/10/30/facebook- grows-per-user-revenue-in-every-single-global-territory/, accessed April 16, 2014. 69 Ansuya Harjani, “Just How Big Will the Messaging App Industry Get?” March 9, 2014, http://www.cnbc.com/id/101474726,accessed March 24, 2014.

 

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70 “Exilway Private Equity Estimates WhatsApp Valuation at US$11 Billion, Intends to Pick Stake,” op. cit. 71 “How Will Facebook’s $19 Billion WhatsApp Deal Affect the Mobile Messaging Market?” February 20, 2014, www.redherring.com/finance/how-will-facebooks-19bn-whatsapp-deal-affect-the-mobile-messaging-market/, accessed April 9, 2014. 72 Jon Russell, “Korean Messaging App KakaoTalk’s Games Platform Grossed $311 million in H1 2013”, http://thenextweb.com/asia/2013/07/16/korean-messaging-app-kakao-talks-games-platform-grossed-311-million-in-h1- 2013/, accessed March 24, 2014. 73 S. Kovach, “WhatsApp Rival CEO: It’s Just a Messaging App and We Can Offer So Much,” March 3, 2014, www.businessinsider.com.au/kakao-talk-2014-3, accessed March 24, 2104. 74 A. Acuna and I. Kwon, “What is KakaoTalk’s Business Model,” October 6, 2013, http://ultralab.co/what-is-kakaotalks- business-model/, accessed April 9, 2014. 75 Kovach, op. cit. 76 Mittal Mandalia, “We Chat Announces Native Mac Client, Windows Version May Follow Soon”, www.techienews.co.uk/977156/wechat-announces-native-mac-client-windows-version-may-follow-soon/, accessed March 26, 2014. 77 “WhatsApp Rival WeChat is Narrowing the Gap as It Passes 355 Million Monthly Active Users,” http://thenextweb.com/apps/2014/03/19/whatsapp-rival-wechat-is-narrowing-the-gap-as-it-passes-355-million-monthly- active-users/#!Bq2ym, accessed March 26, 2014. 78 “How Will Facebook’s $19 Billion WhatsApp Deal Affect the Mobile Messaging Market?” op. cit.

 

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