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How WhatsApp Will Help Make Facebook Money

NEW YORK (TheStreet) -- WhatsApp may have surpassed 600 million monthly active users but the world's largest messaging app is just beginning to monetize, as it seeks to move beyond the traditional SMS (standard messaging service) market.

Now serving 600,000,000 monthly active users. Yes, active and registered are very different types of numbers...

— jan koum (@jankoum) August 25, 2014

WhatApp has been making inroads to the SMS market since it came into existence five years ago. According to research firm Strategy Analytics, SMS revenue fell 4% in 2013 to $104 billion. The research firm expects that SMS revenue will fall by another 20% by 2017, as "intense competition for subscribers between operators combined with the fast growing popularity of over-the-top instant messaging services like WhatsApp, Line Messenger and Tencent's WeChat" continue.

WhatsApp, which charges $1 a year for its service after a year of free use, is the fastest growing social network/messaging service ever, having surpassed Facebook (FB - Get Report) in its first five years of existence. Facebook, which announced its intention to purchase WhatsApp earlier this year for $19 billion in cash and stock, has not put pressure on WhatsApp to grow revenue but rather its user base.

On the conference call discussing the transaction in February, Facebook CEO Mark Zuckerberg said the focus of WhatsApp would be to build its user base and worry about making money once the user base has expanded significantly.

"Our explicit strategy is for the next several years to focus on growing and connecting everyone in the world," Zuckerberg said. "And then we believe that once we get to being a service that has billion, 2 billion, maybe even 3 billion people one day, that there are many clear ways that we can monetize, but the right strategy we believe, is to continue focusing on growth and the product and succeeding in building the best communication tools in the world," he said.

On the call, Zuckerberg and WhatsApp CEO Jan Koum both noted that advertisements aren't the way to monetize a messaging service.

Though advertising does not appear to be in the cards for WhatsApp -- at least anytime soon -- the company has been rumored to add voice services. In a research note earlier this year, Sterne Agee analyst Arvind Bhatia stated that WhatsApp could reach 2 billion by users by 2021, generating $3.65 billion in revenue that year. "Long-term we think WhatsApp could reach 2B users and generate ARPU of $2.50 at 80% margins," Bhatia wrote in the Feb. note.

By comparison, other messaging services such as WeChat, Tango and Viber have 438 million active users, 70 million active users and 100 million active users, respectively. WeChat generates revenue for parent company Tencent by adding additional features to its service, such as stickers, games, and payments to generate revenue. Line, which recently filed to go public, also users stickers and games, as well as branded accounts sending out ads to users.

WhatsApp has added more than 100 million active users since April, as it continues to grow overseas, in places like India, Latin America and Europe.

"Facebook's acquisition of WhatsApp solidifies its position as the top company in mobile globally (ex-China), with three leading market share apps measured by engagement -- core FB, Instagram, & WhatsApp (along with FB Messenger, Paper, etc)," wrote Deutsche Bank analyst Ross Sandler in a February note that discussed the transaction. The strategic rationale is obvious, mobile messaging apps are in a position to become 'demand generation marketplaces' as many have already demonstrated in APAC, controlling mobile engagement and the purchase funnel."

Facebook originally said that it expected the acquisition to close earlier this month, but in a recent 10-Q filing Menlo Park, Calif.-based Facebook said it was extending its deadline to close the acquisition by one year, to Aug. 19, 2015, amid regulatory scrutiny overseas. The Federal Trade Commission approved the deal in April, but the European Commission is reviewing the deal.

If a deal can not be consummated, Facebook must pay a $1 billion termination fee and issue the company the equivalent of $1 billion worth of Facebook stock.

-- Written by Chris Ciaccia in New York

>Contact by Email.

Follow @Chris_Ciaccia

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