Is Facebook The Next Google?

| January 20, 2011 | 0 Comments

Over the long weekend, I finally had a chance to catch up on some movies.  I was particularly excited about seeing The Social Network – the story of how Facebook got started.  And I wasn’t disappointed… great movie.

The timing was perfect.

Facebook has been in the news pretty much non-stop this month.

In case you haven’t heard, Goldman Sachs (GS) is purchasing a $450 million stake in Facebook.  What’s more, they’re using a private offering to raise another $1.5 billion for a piece of the wildly popular company.

Based on the terms of the private placement, Goldman estimates Facebook is worth an astounding $50 billion.  To put it in perspective, that would make Facebook the 100th largest publicly traded company in the world!

So is Facebook really worth $50 billion?

At that valuation, Facebook would be more valuable than Morgan Stanley (MS), Nike (NKE), or Honeywell (HON)!  Those are some huge companies with big time brand recognition.

Keep in mind, we know very little about Facebook’s financial health.  It’s a private company… and won’t likely be public until 2012.

Here’s what we do know…

According to Goldman’s private offering documents, Facebook has 600 million users worldwide.  600 million!  I’ll get back to the number of users in a minute.  In 2010, Facebook is projected to pull in roughly $2 billion in revenue and earn over $500 million in profit.

And that’s really all we know.

Based on that info, Goldman believes Facebook is worth 25 times revenue!  Let’s just say that’s a very aggressive valuation.  In comparison, tech giant Microsoft (MSFT) trades at under 4 times revenue.  Apple (AAPL), the world’s second largest company, trades at under 5 times revenue.

But as crazy as it seems, Goldman Sachs is literally turning away potential Facebook investors right and left.  The bankers’ phones haven’t stopped ringing!  And this is after saying they’d only sell to non-US residents.

What the heck is going on?

Certainly the Goldman/Facebook hype machine is operating at full speed right now.  But… there’s some strong precedent for buying shares based on hype.  Remember what happened the last time a tech company was played up this much…

You may have heard of them… a ‘little’ company called Google (GOOG).

Google doesn’t just dominate the search engine space.  They effectively control the most important source of internet advertising on the planet.  Oh, they happen to be valued at over $200 billion and rake in well over $25 billion a year in revenue too.

But how similar are Google and Facebook?

Back when Google was valued at $50 billion, they were pulling down $3 billion in revenue.  That’s not much higher than Facebook’s revenue.  However, Google basically doubled their revenue every year for most of the decade.  Now that sales growth has slowed, the shares trade at a far more reasonable 7 times revenue.

On the other hand, Facebook dominates the social network space.  And that’s no exaggeration.  Did I mention the 600 million users?

Think about it… that’s roughly 10% of the world’s population!

The problem is we know very little about Facebook’s financial model.  It’s hard to properly value a company if you don’t know how they plan on making money.

But, the Goldman bankers are privy to that information.  And they obviously believe it warrants a huge valuation.

For all we know, Facebook could be just scratching the surface of its revenue potential.  Think of the internet advertising possibilities when you have 600 million users.  There’s almost an unlimited potential for revenue… and much of it is untapped.

What’s more, I don’t expect Facebook users to start jumping ship anytime soon.  The website has gained critical mass at this point.  And with so many friends and family interconnected at one place, I just can’t envision a major exodus in the foreseeable future.

In fact, I expect they’ll continue to add users.

Plus, Facebook is constantly adding new applications and games to the site.  These are extremely popular and provide additional sources of revenue.

Does it all justify Goldman’s high valuation of the company?  Well… maybe.

Google was able to take its near monopoly of the search engine industry and monetize it.  Can Facebook do the same?  If they can, then $50 billion may seem like a steal.  If not… well then a lot of people are blowing a ton of cash.

Only time will tell.  But when it comes down to it, I wouldn’t bet against Facebook.

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Category: Stocks

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The Dynamic Wealth Report works with a number of staff writers and guest experts who specialize in everything from penny stocks to ETFs to options trading. These guest analysts post under the 'staff writer' moniker for ease of use.

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