Facebook, Twitter, and the Web 2.0 Stock Bubble
After Facebook (NASDAQ:FB), Twitter (NYSE:TWTR) immediately emerged as the alleged “next big thing.” In recent years, the inevitable drumbeat for management to take these social media empires public was to reach fever pitch. In retrospect, both IPO events represent capstone achievements for a current Web 2.0 bubble. Going forward, Facebook and Twitter managers will face difficulties converting legions of users into real revenue and profits. Facebook and Twitter shares are likely to crash and burn alongside the eventual bursting of the Web 2.0 bubble. Ironically, the parabolic charts of these social media stocks may appear similar to the Twitter image of a chained whale that expects to be carried through the sky by a flock of birds.
The Initial Public Offering
Taking Facebook and Twitter public references the process of selling shares to outside investors at the initial public offering (or, IPO). In exchange for putting up cash, investors now own shares that carry ownership rights over the corporation. After the IPO, investors will trade these shares between themselves upon the secondary market. Shares are priced at auction, where traders value positions according to the earnings expectations of the underlying business. Prior to the IPO, corporations hire investment banks to play traffic cop and match buyers and sellers together.
By its very definition, the typical initial public shapes up as a proverbial train wreck pitting competing interests against each other in a game of musical chairs, with billions of dollars hanging in the balance as prize money. Corporate management and insiders will angle to sell their shares for the highest price possible in order to raise cash through equity financing for business operations. Alternatively, long-term investors who buy into the company will prefer to initiate positions at low prices, and improved profit potential. The Big Banks, of course, can afford to play both sides against each other and puff cigars, because financial intermediaries turn profits through hefty fees and commissions.
An IPO may be deemed a success if shares were immediately spike off their opening price, only to free fall towards zero over the next year. For Facebook, the pace of this cycle was even more accelerated, as CNN Money and Julianne Pepitone promptly dismissed the May 17, 2012 IPO event as a “huge Wall Street debacle” before this train even left the station. Facebook opened up at $38, before touching a high of $45, and ultimately collapsing to $25 within its first week of trading.
Over the next 21 months, Facebook stock was to surge alongside the broader market before closing out the February 11, 2014 trading session at $64.85. Alternatively, Twitter racked up 73 percent off its $26 November 7, 2013 offering price, to end its first day of trading at $45.10 per share. Twitter shares were to trade hands at $54 at the February 11 closing bell. Taken together, Facebook ($162.03 billion) and Twitter ($29.98 billion) now combine for $192 billion in market capitalization. Wall Street traders have deemed the two websites to be as valuable as oil major Chevron (NYSE:CVX). Former Fed Chief Alan Greenspan may describe this era as Irrational Exuberance 2.0.
Web 2.0 Business Model
The Web 2.0 social media business model bases its foundation upon creating interactive online communities. As registered users participate within virtual communities, they inevitably categorize themselves according to geography, race, income level, political theory, and special interests. With quality information and technology, the social media outfit effectively transforms itself into a broker-dealer that integrates third-party advertisers, goods, services, and potential customers beneath one system.
Facebook listed an online community of 1.2 billion monthly active users within its latest 2013 annual report. A typical Facebook friends list may includes ex-significant others, law enforcement officials, college professors, slacker co-workers, and grandparents. In actuality, Facebook is a public relations campaign for everyday people to score dates, broadcast political rants, and gossip about next-door neighbors. The hodgepodge of characters has made for privacy concerns. Numerous reports have already documented a secular shift in young adults away from Facebook and towards niche applications, such as Snapchat.
Meanwhile, Twitter showcases a more so vertical hierarchy. At the moment, Lady Gaga, Justin Bieber, Katy Perry, and Rihanna are arguably the most important popular culture icons, as each may tweet to more than 20 million followers. Celebrity figures often bypass Big Media to connect directly with fans via Twitter with short messages tallying 140 characters or less. A Twitter page of the common man, however, may host less than 100 followers and less activity than scenes of tumbleweed blowing through West Texas desert. For its sake, Twitter did close out its latest 2013 fiscal year with 241 million monthly active users on its rolls. Be advised that both Facebook and Twitter fiscal years do coincide with calendar time.
The Bottom Line
Facebook closed out its 2013 fiscal year having banked $1.5 billion in net income off $7.9 billion in revenue. Wall Street traders, again, have effectively applied a $162 billion market capitalization price tag onto the Facebook business model. Facebook has largely traded for above 100 times earnings throughout its existence as a publicly traded corporation. As such, investors are banking that Facebook can sustain hyper growth rates well into the near future. Anything less than 100 percent annual earnings growth may expose Facebook investors to severe losses. Last year, Facebook dramatically improved upon its 2012 record of $53 million — however, it reported $1 billion in net income off $3.7 billion in 2011 revenue.
Between 2009 and 2011, Facebook posted $229 million, $606 million, and $1 billion in net income. Broken down further, Q1 2012 profits of $205 million were actually down from the $233 million net income of the year-over-year quarter. The peaks and valleys in Facebook earnings power were largely due in part to the company’s strategic shift towards mobile over time. Still, conservative investors may want sell stock now and quit while they are ahead. Facebook has been priced to perfection.
Twitter, as the latest “next big thing,” closed out its 2013 fiscal year having racked up $645.3 million in losses upon $664.9 million in revenue. The prior year, in 2012, Twitter slogged through $79.4 million in losses after generating $316.9 million in revenue. By all accounts, Twitter has fared worse than Facebook in the aftermath of its IPO. On February 6, 2014, traders promptly dumped Twitter shares to $50.03 and an ugly 24.1 percent loss for the day upon the release of its Q4 and full year 2013 financials. The weak performance out of Twitter may signal the canary in the coalmine and ultimate bursting of the Web 2.0 bubble.