The long-awaited and overhyped Facebook (NYSE:FB) IPO came out neary two weeks ago, and it’s not going well to say the least.
No surprise here — the company and the stock are grossly overvalued sporting a trailing P/E of around 80. At that valuation Apple (NASDAQ:AAPL) shares would fetch $1100 per share. Facebook sells for 25 times revenue; Google (NASDAQ:GOOG) for five times revenue.
Adding to the woes, the growth rates for advertising revenue fell to 44% in the fourth quarter of 2011 (year over year comparison), a big drop from the 77% number in the third quarter and the 83% number in the second quarter. That is a clear trend line. And if that trend continues the company cannot meet most analyst estimates and certainly cannot justify anything near its current valuation.
So should you consider buying FB stock? Not by my book. Here are 8 reasons why:
Reason #1:
Most revenue estimates for the company – and the company’s own estimates – are based, in my opinion, much more on growth per user than growth in users. Going through the numbers the central promise and premise of Facebook is the company will be able to extract increasing amounts of revenue from each user. The company’s S-1, the registration statement filed with the SEC prior to an IPO, states Facebook will be able to increase its advertising rates due to its ability to, over time, improve the efficiency of ads. Do not tell that to General Motors; that company just decided Facebook doesn’t work for them and are no longer advertising on Facebook.
Reason #2
Web advertising is about search and it is an open question how many of Facebook’s 900 million users – or the targeted two billion users at some time in the future – use or will use Facebook to find things. Question: Will it be easier to find something on Facebook or to click over to the next tab on your browser and Google it?
Reason #3
Facebook’s projected growth rate is multiples of the growth rates for online advertising in general. Translation: FB needs to take market share from Google and other purveyors of online advertising in order to hit revenue estimates. Take market share from Google? Maybe a point or two but a big chunk? Ain’t gonna happen.
Reason #4
Facebook’s user base is not growing, in quality, as fast as the hope and the hype. How could it – it already has more than 10% of the human race inside its walls. Why is this important? Users not already in are going to come from demographics — kids getting older, Boomers getting bored in retirement — but mostly from emerging markets such as India and China.
Potential revenue growth from these markets is much smaller on a per capita basis. More importantly, the Chinese will never let Facebook operate as it does here and FB will always be a second provider, as Google is to Baidu (NASDAQ:BIDU). The Chinese have forgotten — excuse me, never knew how to spell — World Trade Organization and never met a foreign company they would not slap down if it grew too big.
Reason #5
Online social game provider Zynga (NASDAQ:ZNG) is 12% of revenue – admittedly, that percentage is declining. A Zynga hiccup and FB misses estimates. Zynga stock is down more than 50% from its high, not an endorsement of the company’s business model and prospects. Not a good thing.
Reason #6
Mark Zuckerberg still completely controls the company. He is not Steve Jobs or Bill Gates, who, while being technical greats, were business geniuses, Jobs designing products that people wanted to buy, Gates selling products using a business model that forced people to buy. Both these men had serious failures; both gave up operating control of their companies to others over time, Jobs claiming it back after Apple almost went bankrupt. Bottom line: Dan Quayle was no John Kennedy and Mark Zuckerberg is decades away from potentially being something akin to Jobs or Gates.
All of these objections are nits and gnats compared to the next two.
Reason #7
Facebook can only succeed in generating the advertising revenue it needs to generate if it can deliver more efficient ads and it can do this only if FB users let FB use data generated by their movements on Facebook. The world is moving towards opt-in permissions on all matters related to the Web, aided by public opinion and political pressure. You saw what happened when an employer demanded access to a Facebook page as part of the evaluation process of prospective employees. The world erupted and Congress stopped fighting itself and began to make noise to prohibit employers from doing this.
Over time, you will see Google and Facebook and LinkedIn (NYSE:LNKD) and other sites currently collecting and using data to target ads increasingly attacked by users and politicians over the issue of privacy. A corollary to this for Facebook – and not Google – is users see their page(s) as their own – and there are only so many ads and solicitations that can violate this sense of property before a certain percentage of users begin to turn off.
And while Facebook and Google can lobby in Washington — worst sentence in the Constitution, that — they have no such clout in Europe, Asia and almost anywhere else.
Reason #8
While many disagree with this assessment of privacy and permissions based data usage by Facebook and other sites, the issue of privacy for under eighteen year old’s is a no-brainer. Somewhere down the line — next week, next month next year, 2014, whatever — privacy restrictions on the use of data collected from under age users will be put in law or practice. This could be triggered by common sense in Washington (if there is any remaining); a tragedy, and let’s hope not; or a combination of the two, such as the daughter of a Tea Party member being solicited to buy U.S. bonds or to vote for Obama. But it will happen.
Eight reasons to avoid Facebook. And if you need another one, look at the lack of conviction in the trading of the stock.
This article was written by Michael Shulman
