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Tue, 29 November 2011 18:40:13

The $100 Billion Question That Looms for Facebook Fans

As initial valuations go, $100 billion is a big number to ask. But at least Facebook has a business model to buy into.

Investors will want to see the financial statements before deciding to jump into the social network's initial public offering, penciled in for next year. And when the figures emerge, perhaps as soon as December, investors are likely to see a more robust business model than they have come to expect from recent Internet IPOs.

LinkedIn, the social network that went public this year, currently sports a market capitalization around $6.5 billion, including outstanding options. Facebook wants 15 times that. And the number of users on LinkedIn, not to mention the time they spend on the site, pales in comparison to Facebook.

According to comScore, 92 million unique visitors hit LinkedIn's site world-wide in October and spent an average of 15 minutes on the site. Facebook had 790 million unique visitors who spent more than six hours on the social network. Google had more visitors, about 1.1 billion, but they spent less than four hours on its site.

Those that remember the dot-com bust might laugh at the idea of valuing Facebook at $100 billion based on its giant collection of eyeballs. But Facebook has something that LinkedIn and other recent IPOs like Groupon don't: big and growing profits.

Facebook will have $4.3 billion of world-wide revenue this year, eMarketer estimates, up from $2 billion last year. Meanwhile, it seems reasonable to estimate that Facebook's operating-profit margins will settle somewhere near Google's, which run about 50%.

If Facebook grows its revenue 60% next year to roughly $7 billion—and can generate 50% operating profit—then after tax, it should have earnings of perhaps $2.3 billion.

At $100 billion, the valuation would certainly seem steep at over 40 times earnings. Google trades at roughly 15 times next year's earnings. However, Facebook is a younger company growing more quickly. That warrants a premium. And even at 40 times, it would be far cheaper than Amazon.com. The online retailer is in an entirely different business, of course, yet its stock fetches 90 times next year's earnings.

Before getting too excited, investors need to dig into Facebook's actual numbers. And they should remember that Facebook needs to keep growing strongly to justify the $100 billion valuation, never mind the higher price tag it would need down the road to give them a return on their investment.

The hope is that Facebook can finally pull more advertising dollars online. For years, bullish investors have argued that advertisers devote too small a percentage of their budgets online, considering that people are spending relatively more time on the Internet than with other media like TV and newspapers.

Facebook collects loads of information about its users that can be used to target advertisements. That should help it capture a bigger share of advertising dollars. It will have to, and for years to come, for the public to profit in its stock.

 

 

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