At long last, thanks to the uber-secret stock-sale memorandum that Goldman (NYSE:GS) hand-messengered around yesterday, we now have a basic sense of Facebook’s recent financials.
From a high level:
2009 REVENUE: $775 million
2009 PROFIT: $200 million
2010 REVENUE: ~$2 billion
2010 PROFIT: ~$500 million
So, based on this, is the company WORTH the $50 billion that Goldman’s clients are desperate to buy it for?
The answer, as always, is “It depends.”
WHAT STOCKS ARE “WORTH”
What any analyst can tell you is that the fair value of any stock is the present value of future cash flows (all the cash the shareholder “owns” in the future, discounted to the present to account for the risk of the cash flows not materializing and the time value of money).
What NO analyst can tell you is what the present value of future cash flows is–for Facebook, or any other company. And that’s because no analyst knows:
- What Facebook’s future cash flows will be
- When those cash flows will materialize
- What the proper discount rate is
The best any analyst can do is pick some estimates for each of those factors and plug them into a spreadsheet and see what “fair value” the spreadsheet spits out. And as anyone with a spreadsheet can tell you, the range of “fair values” you can produce for a company like Facebook using a perfectly reasonable range of assumptions is MIND-BOGGLING.
(Basically, without going into detail, I could make a persuasive case that Facebook is worth anywhere from, say, a few billion dollars to a hundred billion dollars or more. And you could scoff at my conclusions, but you wouldn’t KNOW Facebook’s real value any more than I do. Because to KNOW Facebook’s real value, you would have to KNOW what Facebook’s cash flows will be for the next 150 years, plus the future of interest rates and the risk to those cash flows. And you and I both KNOW that you don’t KNOW those things. And neither do I.)
So go ahead and listen to those analysts chatter away on TV about how much Facebook is worth, but don’t pay much attention to them. Because what they’re really saying is, “Look, Erin, your guess is as probably as good as mine.”
OKAY, FINE, BUT THERE MUST BE SOME REASONABLE WAY TO THINK ABOUT IT
Here’s what we can say:
We can say that, at $50 billion, Facebook stock is trading at about 100X last year’s earnings.
Is that too high?
Well, it’s certainly very high. For Facebook’s stock to be WORTH 100X last year’s earnings, the company’s earnings need to grow REALLY FAST for the next few years.
Because there’s one thing here we can be nearly certain of. Someday, when Facebook is no longer FACEBOOK, but just another big, fast-growing company like, say, Google, Apple, Microsoft, or Cisco, Facebook’s stock will likely trade somewhere between 10X earnings and 20X earnings. (10X if Facebook’s growth is slow, like Microsoft’s, and 20X if it’s fast, like Apple’s).
How do we know Facebook’s stock will trade at those levels?
Because, eventually, except in periods of extreme market valuation, like the dotcom bubble or the financial crisis, that’s where stocks trade. And there’s nothing special about Facebook’s stock except that right now Facebook is the “IT” company that is taking over the world and its stock is going nowhere but up and everyone wants a piece of it.
So, how fast do Facebook’s earnings have to grow for the stock to be trading at, say, 20X future earnings?
For a $50 billion valuation to be a 20X multiple of earnings, Facebook would have to produce $2.5 billion of earnings.
If Facebook’s growth continues to be as rapid in the next few years as it has been in the last two, when might Facebook produce $2.5 billion of earnings?
Let’s sketch out some assumptions:
2009 EARNINGS: $200 million (actual)
2010 EARNINGS: ~$500 million (actual)
2011 EARNINGS: ~$1 billion (possible)
2012 EARNINGS: ~$2 billion (possible)
2013 EARNINGS: ~$3.5 billion (possible)
Okay, so there’s a scenario that suggests that Facebook could generate enough profit to justify a $50 billion valuation by 2012-2013. And based on Facebook’s recent growth and future opportunity, that scenario seems reasonable. (Not necessarily LIKELY, but reasonable).
That scenario would mean, of course, that Facebook would have to generate $12-$15 billion of revenue in 2013, up from $2 billion today. And there aren’t that many companies in history that have ever generated that much revenue that fast. But there aren’t many companies in history like Facebook. So, fine, it’s possible.
So, in other words, Facebook could certainly be worth the $50 billion Goldman’s clients are paying for it. But it could also be worth a lot less, if that profit doesn’t materialize.
And could it also be worth a lot more?
Yes, it could. Google’s numbers looked better than these, so if Facebook is another Google, Facebook’s profit in 2012 and 2013 could be higher than the profit sketched out above.
Google is now about 10 years old, and it’s earning about $8-$10 billion of profit a year. And Google is trading at about a $200 billion valuation (rough). So if Facebook’s growth trajectory matches Google’s, maybe by 2015 or so Facebook could be earning $8-$10 billion a year and be worth $200 billion, too.
Is that LIKELY?
No, given all the things that can go wrong, it would be hard to argue that that is LIKELY. But it’s certainly possible. So over the next few years, the folks buying Facebook for $50 billion might see the company’s value increase by nearly 4X. If Facebook is the next Google. Which is a big if.
(And this, by the way, doesn’t mean that the value of Facebook’s shares will rise by 4X. Because Facebook will probably be issuing new shares over the period. Which will dilute the current shares. So if Facebook’s total value rises by 4X, the company’s shares will probably rise by 3X).
SO IS FACEBOOK A “BUY” AT $50 BILLION?
Is a 3X return over the next several years if Facebook is the next Google enough to justify investing at a $50 billion valuation now?
In the opinion of some smart investors, yes. In the opinion of other smart investors, no.
And that’s what makes a market: Healthy disagreement. If we KNEW what Facebook’s stock was worth, it would just trade at that price and never move. And there would be a lot less fun stuff to talk and argue about.
But, for what it’s worth, here’s one thing Facebook buyers should keep in mind:
We spoke with an early Facebook investor yesterday, who is very happy that Goldman Sachs clients are clamoring to buy Facebook stock at a $50 billion valuation. And this early Facebook investor said all of his friends who are also early Facebook investors are also very happy. Why? Because this means that it will be easier for him to keep selling his Facebook stock, which he has been doing and will continue to do.
Because, regardless of what happens in the future, the HUGE return years for Facebook stock are almost certainly history.
Those who bought into Facebook when it was a tiny company trading for the seemingly obscene value of $500 million have now made 100X their money.
Those who are buying in now when Facebook is a huge and fast-growing company trading for the seemingly obscene value of $50 billion will likely make, say, 2X or 3X their money if everything goes great (or, say, 10X, if Facebook becomes worth what Cisco was worth at the top of the bubble–$500 billion).
And 2X-3X and even 10X returns are far cries from 100X. And if things don’t go great for Facebook, the stock could easily plummet to, say, $10 billion, or 80%, or 1/5th X. So this investor, and other early Facebook investors, have tastier fish to fry.
(Like SNAP Interactive, for example, a company that makes a spammy Facebook sex-app, whose stock has risen 1000%+ in the past three weeks!)
So is Facebook WORTH $50 billion?
Time will tell. In the meantime, Erin, your guess is as good as mine.
Is Facebook’s stock a steal at $50 billion?
Almost certainly not.
Will Facebook’s investors make a killing from here?
Well, there are scenarios under which they’ll do quite well. And there are scenarios under which they’ll get pummeled. And different investors will either love Facebook stock at this price, or hate it, depending on their opinion about how likely these scenarios are to occur.
In other words, it’s the same as it ever was…