Facebook at Fifty (Billion)
Is Facebook worth $50 billion? Some caveman thoughts on this valuation:
1. It's worth $50 billion because Goldman Sachs says so, and they make the rules.
2. It's worth $50 billion because for an evanescent moment, some people are willing to trade a few shares at that price. (Always a dangerous way to value a firm.)
3. Google's valuation provides an interesting benchmark:
a. Google's market cap is close to $200 billion. Google makes (annualizing Q32010) $30 billion a year in revenue and $8 billion a year in profit (wow), for a price to earnings ratio of approximately 25x.
b. Facebook claims $2 billion a year in revenue for 2010, a number that's likely higher if we annualize latest quarters (I'm guessing, I haven't seen the books). Google's clearing close to 30% of its revenue to the bottom line. Let's assume Facebook's getting similar results, and let's say that annualized, they're at $3 billion in revenues, yielding a $1 billion annual profit (which they're re-investing in the business, but ignore that for the moment). That means a "P/E" of about 50x, roughly twice Google's. Facebook has half Google's uniques, but has passed Google in visits. So, maybe this growth, and potential for more, justifies double the multiple. Judge for yourself; here's a little data on historical P/E ratios (and interest rates, which are very low today, BTW), to give you some context. Granted, these are for the market as a whole, and Facebook is a unique high-growth tech firm, but not every tree grows to the sky.
c. One factor to consider in favor of this valuation for Facebook is that its revenues are better diversified than Google's. Google of course gets 99% of its revenue from search marketing. Facebook gets a piece of the action on all those Zynga et. al. games, in addition to its core display ad business. You might argue that these game revenues are stable and recurring, and point the way to monetizing the Facebook API to very attractive utility-like economic levels (high fixed costs, but super-high marginal profits once revenues pass those, with equally high barriers to entry).
d. Further, since viral / referral marketing is every advertiser's holy grail, and Facebook effectively owns the Web's social graph at the moment, it should get some credit for the potential value of owning a better mousetrap. (Though, despite Facebook's best attempts -- see Beacon -- to Hoover value out of your and my relationship networks, the jury's still out on whether and how they will do that. For perspective, consider that a $50 billion valuation for Facebook means investors are counting on each of today's 500 million users to be good for $100, ignoring future user growth.)
e. On the other hand, Facebook's dominant source of revenue (about 2/3 of it) is display ad revenue, and it doesn't dominate this market the way Google dominates the search ad market (market dominance means higher profit margins -- see Microsoft circa 1995 -- beyond their natural life). Also, display ads are more focused on brand-building, and are more vulnerable in economic downturns.
4. In conclusion: if Facebook doubles revenues and profits off the numbers I suggested above, Facebook's valuation will more or less track Google's on a relative basis (~25x P/E). If you think this scenario is a slam dunk, then the current price being paid for Facebook is "fair", using Google's as a benchmark. If you think there's further upside beyond this doubling, with virtually no risk associated with this scenario, then Facebook begins to look cheap in comparison to Google.
Who's got a better take?
Postscript: my brother, the successful professional investor, does; see his comment below (click "Comments")