NOTE: I wrote this article before the IPO numbers became public so please keep that in mind. I keep coming across articles indicating that the fraudulent sacks of shit on Wall St. are trying to value Facebook at $100 billion. The absurdity of this valuation should be painfully obvious to anyone who takes even a cursory look at the numbers. The mathematics are simple enough even for small children to understand.
Let’s look at some key statistics about Facebook:
Users: Over 900 million
2009 Revenue: $777 million
2009 Net Income: Unknown
2010 Revenue: $1.97 billion
2010 Net Income: Unknown
2011 Revenue: $3.8 billion
2011 Net Income: Unknown
Q1 2012 Revenue: $1 billion
Q1 2012 Net Income: Unknown
Last year Facebook had $3.8 billion in revenue, not profit, just revenue. We don’t know how profitable Facebook is because it’s still a private company. Let’s say Facebook’s executive team is absolutely stellar and they have even better margins than Google with 27.5% (Google achieved 25.7% profit margin in 2011). That would mean they earned $1.045 billion in profit which would imply a P/E ratio of 95.7 and a return of only a little over 1% on your investment. That’s a pretty bad investment which does not even begin to keep pace with inflation.
“But Facebook is a growth investment” you might say. Maybe so but how much growth can possibly be expected with 900 million users already, or to put it another way, nearly half of the 2.3 billion total estimated internet users? Sure the internet will continue to attract new users, and at a rapid rate for but how many of those new users will be from the developing world where they have limited access to the internet? Clearly not all users are created equal. Facebook’s bread and butter are the fat, lazy, dumbfuck Americans and other Westerners who stare blankly at their Facebook news feed for hours per day like the fat people in the movie WALL-E. In reality, nearly everyone in the developed world (except China) is already on Facebook, and a larger and larger proportion of prospective Facebook users are most definitely going to be the kind that only have only occasional access through an internet cafe or perhaps the one computer in the village powered by Ogundo Matumbu riding a bicycle behind the mud hut that serves as the village data center to power it. How much revenue will those kind of users produce? But what the hell, let’s just give them another huge benefit of the doubt and assume each user produces an equal amount of revenue for Facebook. Google’s P/E ratio right now is 18.31, as discussed above. Giving Facebook a huge benefit of the doubt that their profit margins are even better than Google’s, their implied P/E with a $100 billion valuation is almost 96.
In order to achieve an 18.31 P/E ratio (in line with Google, which I think is a much better company by the way) holding the $100 billion valuation constant, Facebook will need to increase their revenues and hypothetical net income by more than 500% to $19.86 billion and $5.46 billion respectively. I don’t think it’s realistic that Facebook can increase their revenues and net income by 500% within a reasonable period of time either through growth in users or trough generating significantly more revenue per user. And this is just what’s necessary to justify Facebook’s opening IPO price if you think the company should have a comparable valuation to Google – this does not provide any appreciation on your initial investment. What about the time value of your money?
Now let’s do some simple middle school math (and by that I mean the kind of math they do in 1st grade outside the Western world). Let’s round things off to make the numbers easy… if Facebook made $1 billion profit with 900 million users that means each year, each user earns Facebook roughly $1.11 on average. We know that to achieve an 18.31 P/E Facebook would need $5.46 billion in earnings, so we can divide that $5.46 billion by $1.11 to come up with the number of users required to generate this income target. We come up with 4.92 billion users… or, in other words, more than two times the total number of users estimated to be on the internet today. Woops, clearly that’s not going to work… Maybe they could double their revenue per user and double their number of users… that would get them just 73% of the way to our revenue and profit targets though… bummer, dudes.
I don’t think Facebook is analogous to Google anyway. Google is an innovator constantly introducing new products and services as well as making improvements to old ones. Google develops new products in-house but also makes intelligent acquisitions such as Youtube. What major acquisitions has Facebook made that have been real grand slams? $1 billion for Instagram? You have got to be kidding me. This reminds one of the dot-com bubble where obscene amounts of venture capital were wasted on such abominations as Pets.com and Boo.com.
I see Facebook as being more analogous to MySpace than to Google. Facebook isn’t an innovator. They’re not branching out into other businesses in a meaningful way. They don’t stay ahead of the curve, they make just the bare minimum of changes necessary to hold their position along with a lot of superficial cosmetic changes that don’t offer much if any additional functionality. Where the hell is that dislike button for example? Sometimes the changes they make are for the worse. Rather than being on the cutting edge of new technologies Facebook simply copies the ideas of others and often so poorly that it leaves a niche for other apps to thrive in. Foursquare is an excellent example. Facebook has a check in feature – what do we need Foursquare for? Why the hell do we need Twitter? Isn’t that just like Facebook with no features except the status message?
Speaking of Facebook’s lack of innovation and need for additional revenues to justify their outlandish $100 billion valuation, you’d think they might have done something obvious, like, I don’t know… perhaps putting advertising on the iPad, iPhone and Android apps? You’d think so but you’d be wrong. You would think that would be a no-brainer. And why exactly are they not working day and night on fixing this? How long can it take to throw some ads in there? With over 100 million “iDevices” in the world along with many others running Android that seems like a great way to add some additional revenue, don’t you think? I’m sure they will add this eventually but what does it say about the people running this company that they’ve let this slide for so many years already? Don’t they like making money at Facebook?
While on the topic of Facebook advertising, I would be remiss not to mention Facebook’s abysmally low click through rates (CTRs) and the fact that Twitter crushes Facebook in this arena in yet another of example of how Facebook is behind the curve compared to its peers. This article even claims that Facebook’s CTRs are worse than “regular online banner ads” – how often to you click on those things? Maybe it’s because despite the plethora of information Facebook has on its users, they still do a shitty job of targeting the ads – this has certainly been my experience anyway, I don’t even click on one ad per week and when I do I usually bounce off the site immediately because whatever it was was junk I’m not interested in.
The best part (or the worst part if you’re actually considering buying into this farce) is that Facebook has already paved the way for the next Facebook, whatever it may be, to steal their users in droves. The “Facebook Connect” feature allows developers of other sites and services to offer one click signup and login for Facebook users as well as to export all kinds of personal information and even photographs. Whenever the next Facebook is developed, won’t “Facebook Connect” be a great way to signup for it? It’s only a matter of time. Facebook is not Google and unless they become Google they will go the way of MySpace sooner or later.
But of course on Friday, there will be a mass IPO hysteria and all sorts of retards will bid the stock up to ridiculous levels, and yes, Facebook will reach and probably exceed that $100 billion valuation. Then I will wait impatiently for a week or two for people to write some puts. On a long enough timeline, I guarantee you, Facebook is a losing investment and I can’t wait to take the other side of that bet.
UPDATE: Shortly after I finished writing this article I noticed this headline: “GM Doesn’t “Like” Facebook, Drops Ads“. LOL! More good news for Facebook and the schmucks planning to dump their life savings into it!
UPDATE 2: According to this article, my hypothetical $1.045 billion in net income turned out to be the actual figure for 2011. Since the IPO price is turning out to be $104 billion that means the P/E is over 100. Q1 2012 does not look promising with only $205 million in net income… I can’t wait for those puts!
Zerohedge commenter Blizzard_Esq posted the following:
Facebook’s revenue per USA user (157 million users) is about $13.37 in 2011.
Facebook’s revenue per Foreign user (733 million users) is about $2.21 in 2011.
This seems to confirm my hypothesis that new users are going to be far less profitable than the fat ass, lazy westerners… Can anyone back up these numbers? I could not find a source.
UPDATE 3: Hilarious… the underwriters had to step in to prop up the stock price above $38.