After all this Facebook (FB) IPO craziness, one has to wonder about the way people look at investments. I'm not criticizing, just finding it interesting because it happens from time to time. Of course, just looking at the numbers is not enough when trying to estimate the present value of a company, but it's a fundamental part of the decision-making process of investing. After all, we should know what we are paying for.
It's very improbable that two individuals, when deciding about investing on a company, arrive at the same valuation. Each one of us are faced with different alternatives, objectives, expectations about the company, society, demographics... you get the point? And all this perception that we have influences the price we are willing to pay for a piece of a company. It's easy if you were analyzing company A versus company B on a piece of paper. It's hard when comparing two real companies.
But sometimes, valuations seem to go too far from reality, or at least, from what is reasonable, given the alternatives. I will give you some examples of how Facebook's market cap compared with other companies at last Friday's market close:
| Cisco | Research in Motion | Apple | ||
| Market Cap (millions) | $81,889 | $88,773 | $5,758 | $496,485 |
| Revenue (millions) (annual data) | $3,711 | $43,218 | $18,435 | $108,249 |
| Income available to shareholders (millions) | $668 | $6,490 | $1,164 | $25,922 |
| Price/Earnings | 122 | 13.6 | 4.95 | 19.15 |
Each one of those companies has it's own story, but market sentiment has a really interesting perspective. Of course, they are all different companies, but it's very important that an investor knows what he is paying for. And bear in mind that no one can predict the future (and that is valid for every company).
What is reasonable for me will most certainly be different from what is reasonable for you, but even so there are some simple questions one should ask, for example:
- Is Facebook worth almost the same as Cisco (CSCO), 14 times Research in Motion (RIMM), or 16% of Apple (AAPL)?
- Am I willing to pay in advance 122 times last year's profit?
- How many times am I expecting Facebook profit to grow in order for this price to make sense to me?
- How do I see it as possible for Facebook to sell more publicity to me without getting me annoyed and making me close my account?
I guess that each one of us has their own perspective, but I just find it interesting that market moods influences stock prices in such ways that for some investors it's reasonable to pay 122 times a year's profit and wait and hope that the company manages to make that profit grow for a long time, and it's not reasonable to pay 5 times profit for another that is also profitable, or 15 times earnings for one that already earns 10 times Facebook's profit.
I'm not trying to predict anything, but sometimes it seems that the market goes to the extremes of optimism and pessimism, and investors should question if that is not the case with Facebook. A good understanding of market moods can make you or save you a lot of money.
Disclosure: I am long RIMM.
