It’s just after one o’ clock on a cold, rainy Tuesday afternoon in north central Illinois, and in the other room I can hear the sound of Thumbellina entertaining my three-year-old daughter. In front of me, I have my web browser opened to Facebook as I chat with a friend using Facebook’s built-in instant messaging feature. According to their company information page more than 450 million people world-wide will log on to this social media giant at some time today.
It’s difficult to find the right word to describe the influence and global impact that Facebook has had in the online world. They’ve grown to become a household name in the truest sense of the word in only 8 years. When I graduated from high school in 2003, Facebook wouldn’t be dreamed up for another year, and now, it’s the centerpiece of untold millions of users’ daily online experiences.
Consider the following examples that illustrate the how profoundly Facebook has dominated every demographic around the globe.
- A few months ago, a 16-year-old German girl posted an invitation in which she failed to identify the invite as private restricting it to those on her friend’s list. When she arrived at her party, more than 15,000 Facebook users had accepted her invitation and and more than 1,600 showed up. Police were called and 100 uniforms were dispatched to keep order at the event .
- Earlier this year, a Taiwain woman committed suicide while simultaneously chatting with several friends on Facebook. Her last recorded words via the Facebook chat console were, “The fumes are suffocating. They fill my eyes with tears. Don’t write me anymore… My room is filled with fumes. I just posted another picture. Even while I’m dying, I still want FB (Facebook). Must be FB poison. Haha.”
- Last year, a young girl in Georgia walked into classroom unaware as to why everyone in the class was laughing at her. Without her knowledge, two of her classmates had created a fake profile in her name and posted doctored photos and racist and obscene comments in her name. Unable to get these other students to stop cyberbullying her, she is now suing her classmates for libel .
The way that people use Facebook around the globe varies as wildly as the demographics of people using it. Some uses are sad and tragic, while others are funny, unique, and even inspiring. It’s important to understand, however, that global presence and inspiring site functionality doesn’t necessarily equate to a high company valuation. To figure that, the company’s financials must be considered.
The Basics of Facebook’s Financials
Mark Zuckerburg and his team have built a collosal internet giant that stands to make astronomical amounts of cash during their initial public offering (IPO) next month. As they move to push their company into being public owned, they’re currently valuing it at more than 100 Billion dollars.
At first glance, this probably seems like an outrageously high figure for a free service that allows you to chat and keep in touch with friends, but then let’s take a look at how it’s calculated. Last year, Facebook generated over one billion in profit. This would make their price-to-earnings (P/E) ratio equal to 100. This means that they value their site to be 100 times that of last years profits.
Granted, that appears to be an incredibly high P/E ratio considering that the average across the rest of the stock market is a fraction of that number. However, it’s important to remember that right around the time Facebook was being created 8 years ago, Google was taking their online venture public at a valuation granting them a P/E ratio of 120 and today their stock price is 8 times higher than the day they took it public. And as a side note, it’s profit growth over the past 8 years has brought it’s P/E ratio down to around 22 today.
Romancing the Shareholders
These high numbers are justified not by their current earnings, but by their future earnings potential. In a world where 10% year-over-year profit growth is considered strong, Facebook is currently looking at more than 80% year-over-year profit growth. When they stand and project optimism that they’ll continue to see that kind of growth over the next few years, investors are able to see what a terrific opportunity it is to get on board with Facebook’s IPO.
According to Fortune’s Scott Cendrowski, “Facebook boasts the best attributes of a young company (lightning growth) and a mature one (hefty profits). Its sales are increasing at an 88% compound annual rate. And the company is a prodigious cash generator…”
In 2011, Facebook brought in over $300,000 in profit per employee and their users, advertisers, and overall revenues are continuing to grow at a staggering pace.
So with this information in mind, is it fair to value Facebook at 100 billion dollars or is this another example of Wall Street throwing numbers at the wind?