December 1, 2011 - “People familiar with the matter” yet again made headline news in the Wall Street Journal. These unnamed people said that Mark Zuckerberg is once again open to the idea of an initial public offering, apparently worth $10 billion at a valuation of $100 billion and tentatively set for April-June, 2012.
As predicted by PrivCo earlier this year, Facebook’s IPO – widely expected to be a sure thing for 2011 –was in fact delayed at least into 2012. The postponement came at a time when Google+ was more of a looming threat, and usage in Facebook’s core English-speaking markets were showing sudden signs of peaking. Economic fear was also much stronger this summer. Now that Google+ appears to have lost the first round, Merkel and Sarkozy have quelled some Euro fear, and a few Internet cousins have IPO’d, Zuckerberg has some reason for optimism.
But how optimistic should he and Facebook be? If Linkedin’s recent performance is any indicator, Zuckerberg is in for bad news. LNKD is currently trading at a valuation of $5.7 billion, down 37% from the closing price of its spring IPO. Assuming $500 million in revenue for LinkedIn this year however, Linkedin is still trading at a price-to-sales ratio of 11.4, an egregious figure compared to, say, Amazon’s 2011 revenue multiple of 2.03. Assuming that Facebook achieves $4.3 billion in revenue this year as projected by PrivCo, the social network’s bandied about $100 billion IPO valuation would ask investors to pay a price-to-revenue multiple (market cap/revenue) of at least 23.3. Even with PrivCo’s projected revenue of $6 billion for Facebook in 2012 and just over $8 billion in 2013, Facebook’s revenue multiple at IPO would be at 16.6 and 12.5, respectively.
Let’s put these numbers in perspective. Google (NASDAQ:GOOG), arguably the king of search and a close comparable to Facebook, is currently trading around the $600/share for a $194 billion market cap. Subtracting roughly $40 billion for cash on hand gives Google a $154 billion market enterprise valuation. On track for just under $40 billion in revenue in 2011, this valuation gives Google a price-to-revenue ratio of just 3.85.
Facebook Valuation Range: $17 billion to $50 billion, with a mid-point as low as $35 billion
Evaluating Facebook at the same revenue multiple as Google provides a low point valuation of $17 billion (Google is of course 10 times bigger than Facebook and is no longer a hyper-growth tech investment. However, at this point its ability to be a reliable cash machine while still growing double digits gives it an enviable position.)
To get an upper end of Facebook’s valuation, we can take Linkedin’s aggressive 11.4 revenue multiple, which would give Facebook a valuation of about $50 billion, a far cry from the rumored $100 billion. No matter how you slice it, Facebook, Inc. needs more than some “Like” buttons from Wall Street underwriters to achieve its lofty IPO expectations.
It deserves mention that Facebook does stand a chance to perform strongly upon its IPO. For one, its revenues are still growing in the triple digits, and it is quite a profitable enterprise. This alone is a compelling reason to believe in Facebook, especially when compared to its popular yet profit-bleeding Internet siblings like Zynga and even worse, Groupon. The second reason Facebook may surprise bears is less quantifiable. There is only one Facebook, and the company has redefined the way we interact with one another online. With over 800 million users and growing, Facebook has redefined loyalty. Even with its repeated privacy faux pas, the website has managed to simultaneously fend off Google+ and swallow up niche competition like Orkut, a Google-owned social network that was ubiquitous among Brazilians and Indians during the dark ages of social networking when MySpace was king.
Facebook’s staggering valuation expectations are predicated on its social networking monopoly continuing essentially forever, or at least as far as the eye can see. If history is any indication however, it can’t be on top forever. Even if it were, its targeted trading multiples are simply improbable. To make these multiples more likely, Facebook needs bigger sales, either through better monetization of its user base (which tends to turn off users who already feel their social space is being invaded, a problem Google or Amazon don’t face), increasing return visits, or dramatically growing its audience, already at saturation points. This is also assuming it avoids any major pitfalls in the near future.
Mark Zuckerberg is a smart guy. He must realize that Facebook needs to be further monetized to merit a $100 billion valuation. He better pull a rabbit out of his hat soon, or the post-IPO pop that Facebook bulls have been dreaming of may look more like a balloon deflating.