Facebook, is this the best you can do?
In the world of Internet IPOs, it doesn’t get bigger than this: Facebook, the world’s biggest social network, files for the biggest ever Internet IPO! On first glance, everything about it seems outsize: The company’s raising $5 billion! It made $3.7 billion in revenue last year! And $1 billion in net income! Even the stated mission — “to make the world more open and connected” — is impossibly expansive. It’s all so expectedly huge it’s almost bland.
Here’s the thing about the big, honking 187-page prospectus Facebook filed late Wednesday. Once you dig past those headline numbers, the company itself ends up looking pretty unremarkable — kind of like the lives portrayed in the typical Facebook timeline. You end up wondering if its best years aren’t already behind it.
Facebook’s revenue grew 69 percent in 2010. That’s down from 154 percent in 2009, but still not bad at all. It’s much better than the 29 percent growth rate Google saw last year, and close to the 68 percent growth rate for Apple. But those companies are much larger (Facebook’s 2011 revenue was less than 3 percent of Apple’s). And for Facebook, there are signs that its growth rate is already starting to slow dramatically.
In the first quarter of 2011, Facebook’s revenue grew 112 percent from the same quarter a year earlier. It also doubled in the second and third quarters. But in the fourth quarter, the growth rate slowed to 55 percent. And for advertising revenue, which makes up 85 percent of the company’s total revenue, the growth was even slower: 44 percent. Meanwhile, Facebook’s operating margin has declined over the past year, to 48 percent last quarter from 60 percent in late 2010.
What happened? One factor, according to the prospectus, is the “product changes that significantly increased the number of ads on many Facebook pages beginning in the fourth quarter of 2010.” By squeezing more ads onto its site, Facebook goosed revenue through 2011. But unless it can follow up with another plan to boost revenue, ad revenue growth could slow to 40 percent or less in 2012 — much closer to Google’s recent growth.
That provides an interesting comparison between Google’s IPO in August 2004 and Facebook’s IPO later this year. That comparison is inevitable, and many claim that Facebook’s IPO will “dwarf” Google’s, giving it a valuation five times as expensive. The doubters scoff. But they aren’t considering a simple fact: Facebook, which was as reluctant as Google to go public, managed to delay an IPO for years by winning an SEC exemption.
That means Facebook is going public at a more mature stage than Google did. Google was six years old when its stock debuted on Nasdaq; Facebook is eight years old. Two years may not seem like a long time, but for a growing Web company it’s significant. In August 2006, after two years in the public markets, Google’s market cap was $125 billion. From 2004 to 2006, its net profit rose from $400 million to more than $3 billion.
2012 may turn out to be a worse year for online ads than many are expecting. Last quarter, Google reported revenue growth that so disappointed Wall Street its stock fell 10 percent. At first, some wondered if Facebook was eating into Google’s growth, but now that Facebook has disclosed a dramatic drop in its revenue growth last quarter, that seems less likely. Suddenly, the two biggest purveyors of online ads are hitting a speed bump. And it’s not entirely clear why.
Much of this may not matter if Facebook’s stock is priced low enough to account for future risks. Press reports, citing people involved in the underwriting process, have mentioned a $100 b
million valuation so often that Facebook would lose face if it were to debut below that level. But at that valuation, Facebook will launch at 27 times revenue and 100 times profit.
A $100 b
million valuation also implies that 5 percent of shares will be floated in the offering, well below the 24 percent average float for tech IPOs. That would reflect a recent trend of Internet companies – such as Groupon, Pandora and LinkedIn – selling only 5 percent to 10 percent of their outstanding shares in their IPOs, hoping to engineer a pop in the first days of trading.
For the most part, Internet companies that went public and enjoyed a first-day pop haven’t fared so well afterward. Groupon, Pandora and LinkedIn are all trading below their first-day closing prices. Zynga, whose IPO was seen as a precursor to Facebook’s, went public by selling a beefier 14 percent of its outstanding shares – and dropped 5 percent on its first day. Last Friday, six weeks after its IPO, Zynga closed above its offering price for the first time.
Investment banks have a vested interest in seeing Facebook’s public offering succeed: The market needs a hot IPO like Google’s or Netscape’s to ignite interest in Internet IPOs, which will bring more fees to underwriting desks. But the catch is, many institutional investors who wanted in on the stock have already found shares on secondary exchanges like SecondMarket. Rather than adding to the demand for Facebook’s debut, they may instead sell into it.
Even a few months ago, it was hard to imagine that Facebook would be just another social media IPO that soars at first and then drifts downward. But if the IPO isn’t priced judiciously, it could be just that.
Facebook will always be an important company in Silicon Valley’s history, a daring innovator that redefined the Web and changed how we interact and share content. Its early, rapid growth will always rank among technology’s biggest success stories. But the data inside its long-awaited prospectus suggests that may be the old Facebook. The new Facebook looks a lot more bland.
PHOTO: Facebook CEO Mark Zuckerberg listens to a question from the audience after unveiling a new messaging system during a news conference in San Francisco, November 15, 2010. REUTERS/Robert Galbraith