If you’ve been following finance news over the past couple of weeks, you would have likely read the headlines about the much anticipated Facebook Initial Public Offering (IPO). With Facebook having the largest social network in the world with over 840 million active members and growing, they are moving towards Google like dominance, which has brought the interest of investors worldwide.
So what is an IPO? It’s basically a way for a company to raise money by issuing shares to public markets. In the process, it can make existing shareholders very wealthy. In this case, Mark Zuckerberg, Facebook founder and CEO, will likely become one of the richest people on the planet.
How rich? The $5B IPO will place Facebook at a valuation of $85 Billion to $100 Billion – yes with a B! With the Mr. Zuckerberg retaining 28% or so of the company, it will bring his ownership stake up to $28 Billion promoting him to the top 10 list of the worlds richest people.
Back to the business itself, how does Facebook monetize their 840 million active members? Like Google, Facebook has monetized the traffic on their site with ads. While Google displays customized ads based on search results, or website content, Facebook displays ads based on demographics. What makes Facebook attractive to advertisers is that they can tailor their ads specifically to their market. For example, a company could target and display ads specifically to 20-25 year old males, from Canada, educated, and only pay when their targeted audience clicks their ad.
How much revenue does Facebook generate? In 2011, it’s reported that they generated over $3.71 B in sales, up over 88% from a year earlier. After all expenses, net earnings are reported at $1B, up 66% from 2010. With $1B in earnings, that brings a price/earnings multiple to an insane 100 assuming that the valuation reaches $100B on IPO day. It’s starting to feel like the late 1990’s all over again!
Although valuations are sky high, it’s hard to ignore how much Google appreciated after their IPO in 2004. The stock started trading in the $90’s and today, it’s a $600 stock. A six bagger in seven years which is about a 31% compounded annual return. Mind you, Google valuation is much more conservative at 20 times earnings (~$200B market cap). Could Facebook take the same path? Only time will tell!
Back to you, will you be buying Facebook on opening day? Do you think that it’s over valued?