INTERVIEW: DST drives social networking in Russia and beyond

By bne IntelliNews October 27, 2009

Jason Corcoran in Moscow -

Yuri Milner has two strong bets in the horse race for global domination of social networking. The heavily fancied Facebook is the frontrunner, but Russian challenger Vkontakte has caught the attention of some punters and is showing good form on its home turf.

Digital Sky Technologies (DST), which Milner founded with his partner Gregory Finger in 2005, leapt to international attention in May after it acquired an initial 1.96% stake worth $200m in Facebook. It was DST's first foray out of Russia where it has sizeable stakes in a string of internet companies such as the social networks Vkontakte and Odnoklassniki, web portal, game developer Astrum Online and the online classified business

Facebook and Vkontakte are now going head-to-head in 12 new markets besides the Russian one, where Facebook is only the seventh most popular social network. Milner insists a conflict of interest does not arise, because DST does not interfere operationally or with its companies' products. "For us, the fundamental issue is that we don't get involved operationally and that's how we really resolve the conflict of interest situation. Vkontakte is doing what they want to do, as is Facebook, and we don't get in the middle of it," he tells bne in an interview.

DST will continue to build its share of Facebook "opportunistically" by buying from shareholders of the California-headquartered company. It initially spent about $200m acquiring 1.96% and has since invested another $100m, which increased its holding to 3.5%. Milner insists a potential merger of Facebook and Vkontakte, which looks like a clone of its US rival in design and functionality, has "never been an issue."

"It's about the vision," he explains. "It's about being long term and our mutual understanding that social networks will play a significant role going forward in the people-sharing information."

Vkontakte claims on its homepage to have attracted over 46m registered users, which still pales in comparison to Facebook's 250m-plus users. But the company has recently snapped up the domain name for an undisclosed amount and plans to use it to brand and market Vkontakte in 12 other languages, starting this month.

Entrepreneurial spirit

From his 57th floor office in Moscow City Naberezhnaya Tower, Milner can survey the growth of the capital's emerging business district, which is close to where he grew up in nearby Kutuzovsky. Sipping on expensive bottled Voss water, Milner points out the building where he grew up and the Number 4 School he attended. A trained particle physician, Milner has not followed the typical career path of a Soviet Academy of Sciences graduate. After leaving the academy for US-based Wharton School of Business in 1989, he turned to the world of banking and worked for the World Bank for a few years helping to develop Moscow's embryonic financial markets.

Milner was lured to Bank Menatep, founded by the now-jailed oil tycoon Mikhail Khodorkovsky, to build its brokerage and investment banking arm. He left the bank and got involved in private equity before stumbling on the internet's early boom in the late 1990s. Milner's international and banking contacts have helped DST to raise about $1bn to invest in its portfolio of Russian and Eastern European internet companies. Investors include Renaissance Partners, Tiger Global, Goldman Sachs and steel billionaire Alisher Usmanov, who is rumoured to hold a 32% stake.

Yet Milner, 46, says his most prized contacts are the young internet entrepreneurs running his portfolio companies rather than the bankers and investors. "The founder of Vkontakte is 25 and the chief executive of is 30. The internet is mostly the game of the young. Social networks started in colleges and grew, which means these guys started these businesses young and will run these companies for another 15-20 years."

Milner says his business model is more long term than other private equity firms investing in technology. An IPO is the favoured exit for investors, but only when the investment climate is absolutely right. "We would rather DST goes public and gives them liquidity that way. I don't have a date for that. A lot depends on the market and other things we don't control," he says.

Some warn that the growing investor interest in online social networks like Twitter and Facebook could yet feed another bubble, which burst spectacularly at the beginning of the decade. Milner is conscious of past mistakes and he has own experience of launching three Internet businesses during the same period. The e-commerce vehicle failed to take off while the online auction site Molotok and the Geocities-styled Narod have since been folded into and Yandex, respectively. "The problem with e-commerce was transaction trust and low penetration, because you need a critical mass of buyers," explains Milner. "Russia is still not today a perfect play for e-commerce, but in a few years it will be."

DST's portfolio companies have been pioneers insofar as showing their western counterparts how to monetise and to make social networking a profitable enterprise. Vkontakte and Odnaklassniki generate their incomes from the traditional model of online advertising, but have also experimented successfully with premium paid services and micro-payments, allowing users to buy and sell items with the site taking a portion of the revenue.

Russia's other competitive advantage is its legacy from the Soviet system of producing great mathematicians. Milner cites how three teams from Russia featured in the top four places of last year's 32nd Annual ACM International Collegiate Programming Contest World Finals. Russian students from St Petersburg and Saratov rose to the top against 6,700 teams from 1,821 universities globally in the event, which is seen as the Olympics of computer programming. "Russia could encourage sectors outside natural resources and the technology sector could be one. We have a competitive advantage because we have always produced good mathematicians and Russians have the entrepreneurial flair too which is required."

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