Here's the Truth About Facebook's Stock Price ... - Yahoo! Finance

By Henry Blodget

Facebook's stock (FB) has dropped by half since the IPO three months ago.

And the stock price is now well below the level at which most employees have been granted stock in the past 18 months.

This means that most current and former Facebook employees are worth far less than they were a few months ago.

Facebook's stock crash is also hurting morale at the company, and damaging perception of the company's business and brand.

With the Facebook employee lockup releases coming in October and November, this isn't just an issue of morale and "paper net worth." Current and former Facebook employees have been counting on the stock to buy things (houses, for example). So it's a matter of near-term financial planning.

With this in mind, here's what Facebook employees should understand about their stock price:

• The stock crash has nothing to do with the quality of Facebook as a company. The stock is tanking because investors are radically revising (downward) their outlook for Facebook's future financial performance and earnings. The range of "fair values" for Facebook stock is unfortunately extremely wide, and investors are examining Facebook's recent results and concluding that the fair value is much lower than they thought three months ago.
• The market is "re-assessing" Facebook because of three things: 1) the rate at which revenue growth is decelerating, 2) the impact of the shift to mobile, and 3) the decline of the company's profit margin based on the decision to invest more for future growth.
• All of those factors suggest that Facebook is unlikely to be "the next Google," which is what many investors assumed it would be when it went public. (This was the investors' fault--not yours)
• Facebook's stock price is still expensive relative to the current expected earnings growth for the company. At $20, the stock is trading at 31X next year's projected earnings per share of $0.65. Apple and Google, for comparison, trade at less than 15X. Facebook could easily trade at 20X-30X next year's earnings and still have a nice valuation. So the stock could go considerably lower.
• Facebook's stock is not likely to bottom until one or more of three things happen: 1) revenue growth reaccelerates, 2) margins stop declining and start expanding, 3) the stock falls to a level that is objectively "cheap," at which point value investors will start buying it. We're a long way from that level.
• The upcoming "lockup" releases will likely keep pressure on the stock--unless the company's revenue growth suddenly accelerates. Lots of you will understandably want to sell some of your stock, and the market already knows that and is adjusting for that. If you all decide not to sell, that will probably help the stock price modestly around the time of the lockup releases. But it won't make a lick of difference over the long term. So if you want to sell, sell. Although it won't feel like you're getting a good price, unless the stock completely collapses from here, you will be getting a fine one.
• LinkedIn and Amazon enjoy much higher price-earnings multiples, but there are several reasons for this--none of which suggest that Facebook is undervalued. The main one of these reasons is that both companies have low profit margins that are expected to expand rapidly. This will drive very fast earnings growth. Facebook's margins, meanwhile, are expected to continue to decline, which means that earnings will likely grow more slowly than revenue.
• There is absolutely nothing you can do about the stock price in the near term. The stock price is going to do what it is going to do. And, contrary to the assertions of some observers, today's stock price has nothing to do with the NASDAQ screwup on IPO day, a failure of your managers to aggressively "market" the stock, or any other factors. Your CEO, Mark Zuckerberg, was very clear in the IPO prospectus about your desire to focus on the long-term at the expense of the near-term. That is very admirable and wise. Too many American companies ruin themselves by managing their businesses for the near-term stock price. But unfortunately it means that, in the near-term, your stock price is going to take it in the teeth.
• Most of the stocks of growth companies go through the painful transition that yours is going through: The transition is from "hyper-growth" to long-term growth. Hyper-growth gets extremely high stock valuations. Long-term growth does not. And the transition between the two can keep stocks trading sideways for many, many years.
• The company whose long-term stock action you should study is Amazon's (AMZN). Amazon's stock, you will note, went straight up for three years, just like yours. Then it crashed, recovered a bit, and then traded sideways for about 5-7 years. Then, eventually, when Amazon's obsessive (and admirable and rare) focus on customers instead of quarterly financial performance finally established it as a global ecommerce juggernaut, the stock price recovered all of its losses and began hitting new highs. This is what happens when companies focus on the long term. Their stocks go through fallow periods that last many, many years. But, eventually, if they execute on their vision, the stock follows through. (Also, it is important to note that you went public at the peak of the stock price. Most of the "rocket ride" happened when you were a private company.)

I wish I had better news for you about the stock price, Facebook folks, but I don't. The stock might bounce around in the high teens and low-$20s for a while. But unless/until you reaccelerate revenue growth (which might happen with Sponsored Stories, for example, if they're a massive hit), there's no real reason it to move sustainably higher.

And with the stock still not "cheap" and more huge lockup releases coming up, even long-term investors will be hesitant to bet on the stock.

By next year, thankfully, the lockup problem will be behind you. After that, where the stock trades will be a function of 1) what the market thinks Facebook will earn in the next 2-3 years, 2) whether revenue is accelerating or decelerating.

In short, you're getting punished because investors got pie-eyed and concluded en masse that you were "the next Google." This happens frequently when companies are in their hyper-growth phases: Investors extrapolate into the hereafter, and believe anything they want to hear. The resulting "multiple compression" when reality sets in is a huge bummer, but it has happened before and will happen again. And there's nothing anyone can do about it.

Not to get too wonky, but as you've probably heard, the theoretical value of a stock is the "present value of future cash flows"--which is to say, the current value of all the money that Facebook will ever earn discounted back to now at a rate that appropriately accounts for the risk that the cash might not materialize.

You don't have to be a genius to know that no one knows how much money Facebook will earn over the next, say, 150 years, which is about as far out as the cash flows matter, because any cash received after that is basically worth zero when it's discounted back to today.

And given the huge range of potential scenarios for Facebook, the amount of money you could earn in the future varies greatly depending on one's current assumptions.

As a result, what investors usually do is look at a company's current earnings trajectory and base the valuation on that.

You can think of this as being akin to firing a bullet out of gun at a target that is 150 miles away. Tiny changes in where the gun is aimed will have a huge impact on where the bullet eventually hits. And it's the same with stock valuation, especially for a company like Facebook (for which the range of potential trajectories is more like that from a sawed-off shotgun).

Source: http://finance.yahoo.com/blogs/daily-ticker/truth-facebook-stock-price-212141489.html

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