Figuring out what Facebook Inc. is worth sure got complicated fast.
The company and its underwriters told us $38 (U.S.) a share, the initial public offering price. The market disagreed – the stock sank to the low $30s and stayed there.
Analysts have cooled on the stock. In the days before its IPO, analysts within the underwriting syndicate took the unusual step of cutting their 2012 earnings forecasts. According to Bloomberg, analysts’ average 12-month target price fell from $46 to $39.50 – implying little return for first-day investors over the next year.
In an analysis on Forbes’s website, New York University finance professor Aswath Damodaran put Facebook’s value at $29 a share – and that assumes Google-like growth and Apple-like profit margins. If it can’t live up to those industry leaders, he said, the value is more like $20-$25 a share.
But the darkest view of Facebook’s value comes from the stock analytics group at Thomson Reuters: Less than $10.
Intrinsic value – $9.69
That represents the stock’s “intrinsic value,” a valuation concept favoured by Warren Buffett. The basic idea is to calculate the value of a business based on reasonable long-term growth projections, smoothed over time.
“Most analysts are too optimistic, especially on growth stocks,” said Tim Gaumer, director of fundamental research at Thomson Reuters. His firm uses a proprietary algorithm to adjust growth projections to reflect historical market norms.
“Growth tends to revert to the mean pretty quickly. Analysts tend to take short-term growth rates and extrapolate,” he said. “High growth rates tend not to be sustained in the long term.”
Facebook’s mid-week price of $32 implied annualized earnings growth of 24 per cent over the next 10 years. Thomson Reuters’ algorithm says 12 per cent is more realistic, as the company matures and its pace slows to something closer to the industry average.
Using those figures, Thomson Reuters pegs Facebook’s intrinsic value at $9.69 a share. The stock is trading at 3.3 times its intrinsic value.
Put in perspective
Compared with other social-media-related growth plays that went public in the past year or so, Facebook’s price-to-intrinsic-value (P/IV) ratio is high, but hardly unprecedented in this coveted market niche. LinkedIn trades at a 6.2 P/IV ratio. But the large-cap tech superstars against which many investors will measure Facebook – such as Google, Yahoo and Apple – actually trade below their intrinsic value.
Of course, the intrinsic value calculation is based on historical averages; some companies are better and grow faster than the norm. But Facebook would have to be miles above average to justify its current price. “We may be discounting too much by saying it’s going to be a typical company – maybe it is exceptional,” Mr. Gaumer said. While that’s not impossible, he said, “the odds don’t favour it.”
Infographic: Facebook's intrinsic value