When Facebook (FB) first went public more than a month ago, I was sure we were seeing the peak of the fad. I, like many investors, expected the overwhelming hype behind the company to cloud common sense. I'll admit I believed Facebook could price at $40 and open in the $60s on its first day. Of course after that I expected the stock to go down to more reasonable levels, like a valuation similar to Google (GOOG) or even Zynga (ZNGA). Unfortunately for investors who bought into the IPO, the stock skipped to the end and started heading lower on just the second day of trading. On the eve of the stocks first trades, the underwriters announced the price promptly at 4 pm. Surprisingly it was still in the range and not higher, probably meaning the order book was full but not "highly oversubscribe" as some were saying earlier in the week.
With that pricing my lofty expectations were lowered but the new issue still had a chance for a decent pop. I was waiting for Mark Zuckerberg to ring the opening bell with Wall Street guys around him, thinking "now that its a public company, Zuckerberg is going to get serious about making money." But of course the big man came out in his nicest formal hoodie and sneakers and announced to his employees and the world that Facebook is not in business to make money, rather to connect the world through social networking. That's a great soundbyte, if you're running charity. Right then I knew the Facebook stock could be in trouble.
Up until this point Facebook has shown its intent to focus on networking, not on the bottom line and apparently that was going to continue. I am aware that the company had revenue of $3.7 billion last year and that they managed to make a billion dollars in net income, but it's not 1999 and just because a tech company is profitable do they deserve to trade at 100 times earnings? The answer is no. The markets seem to agree and since the IPO the stock has come down to around 60 times earnings, but that is still too high. High valuations are for companies who want to make money and increase their earnings in the future. Now Facebook has been public for just over a month, so what are the company's weaknesses and how is it going to fix them?
Lets start with monetizing mobile. The growing popularity of mobile phones and tablet PCs was never a secret and the rest of the industry was preparing for it, in fact, it is the entire reason why Twitter was created. Google has a comparable business in that it earns most of its revenue from advertising, 96% of revenue for Google and 82% of revenue for Facebook. But Google has successfully monetized mobile devices for years now, Facebook had only begun to test mobile ads in February of this year. In January, Cowen analyst Jim Friedland estimated that Google could make $5.8 billion in revenue this year from mobile advertising, which is more than Facebook is expected to make in total revenue in 2012. Many analysts keep talking about how much the company can do in the future and everybody looks at me funny when I ask "why didn't they monetize this business years ago?"
To kickstart Facebook's quest to monetize its mobile users, several weeks ago the company announced the launch of an App Center. At first the market didn't really care for the announcement and Facebook shares sold off on the news. One reason could have been that this is actually just a storefront, which people use to find the app they want and then download it from Google Play or the Apple (AAPL) Store. This isn't the great mobile monetizing that investors had hoped for. The store also started out with only 600 apps, the most popular 600 apps, so most customers already knew about them and did not need Facebook's algorithms or friend suggestions to tell them which apps they would like. However in the future when developers choose Facebook credits, the company will take 30% of each download. It will also provide Facebook with more information on its users, most importantly, customer buying habits. Even though I consider this virtual product almost too little, too late, Facebook's App Center still sent 83 million visitors to the Apple Store just in the month of May.
The App Center is not the only reason that Facebook has rallied off of its lows, last week the company rolled out a new advertising bidding system. Now advertisers can bid in real time on a specific ad impression in a system called the Facebook Exchange. All of these product releases and system tweaks are showing investors that Facebook is exploring new and different ways of monetizing and increasing revenue, but there could still be significant downside ahead. The lock-up periods for many shares of FB stock is quickly expiring and very shortly a large amount of shares could flood the market and drive Facebook down again.
There are multiple lock-up periods for the stock that end a certain amount of days after the final prospectus was accepted. The exact dates and share amounts can always change due to factors like a material news announcement or secondary offering, but as it stands now the periods are as follows:
- 91 days after, 171,797,666 shares are available for sale
- 151 to 180 days after, 137 million Pre-2011 RSUs (Restricted Stock Units) and 110 million shares and options are available for sale
- 181 days after, 1,338,453,216 shares and another 18 million RSUs are available for sale
- 211 days after, 141,776,569 shares are available for sale
- 366 days after, 93,815,940 shares are available for sale
While Facebook is experimenting with different advertising and ways to monetize its vast user base, growth is slowing and Zuckerberg is inexperienced at leading a public company. The market clearly does not believe in the company's business plan or prospects and it will be very difficult for the company to gain any sort of traction with this amount of share overhang. If the Facebook strategy starts showing some results I would look to buy on the dips in November or December if the market looks like it can sustain the price with additional shares trading.