Tuesday, May 22, 2012

From Techcrunch: How the Media is Wrong About Facebook's IPO -- But I'm Still Bearish

Tl;dr Though the FB IPO may have gone of a lot more smoothly than many critics are saying, FB needs to post consistent, high growth in order to justify its valuation, which looks unlikely.

Techcrunch contributor and VC member Dan Scholnick has makes three very astute points about the Facebook IPO, worth reiterating:

1. The best IPOs maximize capital raised by the company while minimizing dilution for existing shareholders and employees.
2. The best IPOs minimize the fees paid and value transferred to third parties.
3. The best investments are determined over months and years, not hours and days.

In general, I agree. And by these metrics, FB's IPO was pretty good. Additionally, now that NASDAQ:FB has closed at precisely 31, as of 5/22/12, I think one could argue that the underlying value of FB is actually pretty well within the range predicted by bankers. That is, it seems counterintuitive to me that one would price a stock as lower than its value when planning an IPO, especially as Mr. Scholnick points out, the 'pop' associated with such undervaluations mostly benefits bankers and investors, and not the company. To put it another way, the actual price of FB, purely as a function of what the market will bear, turns out to be pretty close to its IPO, so that seems pretty good. If it has been way undervalued or way overvalued, this would be a problem, as it means the bankers would have improperly estimated the value of the company. So, by the above metrics, and judging by the price the market will bear, FB's IPO seems to have gone off relatively smoothly. However, all this aside, I am still bearish on FB, for the following reasons.

FB's PE is now 99.22, with a Mkt Cap of 66.28B, translating to earnings of 668M. Assuming that a 'healthy' PE would be somewhere around 13, this means that investors are expecting FB to be able to post earnings of 5.01B within the not-too-distant future.

On the one hand, given that FB has 900M users, that comes out to a total user-year value of about $5.66 a year. Given that it looks like FB is on track for something like 80 hours per user, per year it doesn't seem unreasonable to think that FB could get five bucks and five bits out of 80 hours of user usage. On the other hand, this would also represent a 750% increase in revenue, which is, as they say, substantially non-trivial.

So we will see. Personally, I think unless FB can start to show some really meaningful headway toward a 5B revenue in the near future, it's price will continue to go down. Also, given the negative QoQ revenue growth, FB may be in for a rocky road.

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