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Was Facebook's $3 billion Snapchat bid a Hail Mary?

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Since Wednesday, when the Wall Street Journal's Digits blog reported that Snapchat Inc. had turned down an acquisition offer worth close to $3 billion, tech-spotters have busied themselves debating the wisdom of that decision. After all, few words command attention quite like billions, and the sheer chutzpah of waving off three of them—in cash, no less—practically demands comment.

The other party involved only adds to the story's allure. Facebook once found itself in a similar position, turning down a flat billion from search runner-up Yahoo back in 2006. Now it's Facebook making the offer and finding itself turned away. It’s fitting, perhaps, since the popularity of the Snapchat app is fueled partly by disenchantment with the sort of ad hoc permanent record older social media platforms tend to create, Facebook foremost among them. Teens in particular have grown savvy to the setbacks that can come from having offhand comments and party photos linger on a friend's profile and have embraced the ephemerality of Snapchat's (theoretically) self-destructing photo messages.

Don't be seduced by the suggestion of a principled stand, though. There's no insinuation in the Digits article that CEO Evan Spiegel rebuffed Facebook in order to ensure that Snapchat continues offering ephemerality. Rather, the issue is that word again: billions. By holding off till at least next year before selling the service, Spiegel reportedly hopes to drive up the valuation to $4 billion or more.

There was no shortage of voices bemoaning that strategy on Wednesday. On Twitter, the Wall Street Journal's own Farhad Manjoo called it "a really dumb move," while New York magazine writer Kevin Roose predicted that Snapchat will "regret turning down $3 billion zuckerbucks someday." Maybe, maybe not—but it's telling that the tech and money pundits have so little faith in the upward trajectory of the business. Telling not because they're necessarily right—it's possible that, six months from now, someone will make Snapchat a better offer—but because their pessimism suggests an underlying skepticism about the industry as a whole.

They have every reason to be skeptical. Quartz technology writer Christopher Mims once described Facebook as "a large, inefficient engine for transforming electricity and programmers into a down-market place to sell low-value advertising," but that's a comparatively recent adjustment to the company’s business model. Taking the long view, it's more accurate to say that Facebook, as well as the generation of social platforms that followed it, functions by trading promise for investment. Each platform promises sustained profitability—and builds that promise largely by attracting colossal audiences—on the premise that each user affords another financial opportunity, usually via some form of advertising.

If the reports are to be believed, that's precisely why Spiegel and company have decided to wait it out. According to recently published numbers from Pew Research, about 26 million people use Snapchat in the U.S.—a great many, certainly, but still only about 9 percent of the total number of cellphone owners. There is, then, a broad market yet to be conquered, and the prevailing logic would seem to dictate that the more users the company can attract before they sell, the more they can demand by way of compensation.

In the meantime, Spiegel need not worry himself too much about running Snapchat like a business. After all, startup entrepreneurs aren't the business of selling apps or widgets or even anything as slight as interactions. They're in the business of selling startups, and it falls to the buyer to figure out how to turn those legions of users to profit. That's the logic that encouraged Tumblr creator David Karp to follow his gut on eschewing advertising, right up until it was time to prove the site's potential for profitability. A year after introducing Tumblr's first ads, Karp sold to Yahoo for $1.1 billion. He's been praising the advertisers ever since.

Start a social platform, attract investors, build an audience, then sell to the highest bidder: It's been a wildly profitable model for entrepreneurs, but there are limits. That Facebook wants Snapchat at all, and is willing to shell out so much, is an indication that we may be riding up against those limits. After all, the promise of social media is its potential for profit, and no company has been as illustrative of the pitfalls of social media advertising as Facebook. It took five years for the company to turn its first profit. Those profits peaked two years ago at almost $1 billion, then plunged to $32 million in 2012. By comparison, the New York Times Company, frontrunner of what is frequently dismissed as a dying industry, reported profits above $108 million during the same year.

The decline in Facebook's profits is explicable in part by an increase in spending, both on the research and development needed to roll out new products like its smartphone front-end, Home, as well as on big ticket purchases like its $1 billion acquisition of Instagram. A $3 billion acquisition certainly wouldn't help Facebook's margins, but what's an aging platform to do? On their own, its users aren't worth much—Alexis Madrigal of The Atlantic estimates that each one generates about two cents in income per month—so Facebook has to deal in economies of scale.

The trouble is that the platform's boom days appear to be behind it. Its user base continues to grow, albeit gradually, and mostly in developing markets, where Home all but locks users into the Facebook ecosystem. The all-important teen market, however, is starting to migrate to newer, less socially fraught challengers, like Snapchat. If Facebook can't do something to shepherd them back into the fold, it's probable that its established userbase will continue to decline in the next several years, which will, in turn, threaten its profitability.

In that regard, you can take the $3 billion bid—three times its peak annual profit!—as an index of just how badly Facebook needs Snapchat. It needs it first of all for its 26 million users, many of them Facebook defectors, but more so because it can ill afford to suffer the competition. The exorbitant offer, then, was less about Snapchat's inherent potential than about salvaging Facebook's own future. As such, question number one for Spiegel must be this: Will any other buyer want Snapchat as badly as the competition hurts Facebook?

But that brings up an even bigger question: What happens to the business of selling social media startups if Facebook begins to flounder? Passing on $3 billion is a gamble, to be sure, but it's Zuckerberg's own success that makes it seem a better bet than it might have a decade ago, when investors were still recovering from the dot-com boom. For all its ups and downs, Facebook is still the platform that's done the most to make good on the promise of the social model, to validate the premise that social juggernauts can be transformed into reliable money machines. As such, it is frequently treated as proof of concept for the whole industry. If Facebook can't win after having accumulated more than a billion users, future investors may start to doubt, much as they did at the end of the dot-com bubble, that any platform can live up to that promise.

It would be hard to beat that for dramatic irony: Spiegel, following Zuckerberg's own example, rebuffs Facebook's Hail Mary bid, and in so doing, indirectly spooks the market for years to come. Chances are, that won't happen before Snapchat finds another buyer, but it could be the ultimate outcome of the story. That even high-profile observers are appalled at Spiegel's confidence suggests that there's a whiff of autumn in the air. Take the money, they're saying. It might not be there for long.

Illustration by Fernando Alfonso III