In my previous article about Facebook (FB), concerning the IPO, I suggested that the company had finally turned the corner from exciting start-up to ho-hum, standard-issue listing. There were reasons: that is, one might have made a long term investment in the social networking giant, but speculators did not seem likely to profit from either unaccounted-for value in the company or a reckless frenzy for shares. So far, such has it been. And yet, depending on how you look at it, a case can still be made on behalf of this embattled equity.
My earlier assessment was based on its valuation at the time and the hardly revolutionary IPO strategy it pursued (you'll recall that even Google (GOOG) used the more investor friendly Dutch auction process). In other words, an early adopter of Facebook shares was most likely hoping to purchase them at a discount. Now, with the benefit of some performance history--albeit not much--we can start thinking more about future prospects and less about unrealistic expectations for the present.
Given the media attention to the Facebook IPO fiasco and how large the service looms in the lives of a significant portion of wired humanity, it can be difficult to separate personal feelings about the company as a user from practical considerations as an investor. Really, these are two separate concerns.
For users, the quality of Facebook has very little to do with the performance of purchased products and services, since most of what the company offers is free. What tends to rile people who depend on the service for mediating their social lives are the periodic "improvements" that Facebook rolls out, some of which dramatically transform the platform in ways not all users find compelling. Naturally, change is both inevitable and desirable, as Facebook not only has incremental improvements in its technology to worry about but rivals to keep at bay. Despite all the complaints, they have actually proven quite adept at maintaining the "hacker" spirit at the company, in that they are willing to make the sorts of dramatic changes one normally expects from disruptive rivals. In this way, again despite the complaints, they have managed to maintain their dominance in the social networking world--not a mean feat when your competition includes the likes of once-disruptive company Google. Facebook has not yet begun to rest on its laurels.
And with good reason. Hosting all that data is expensive. Until Facebook figures out a way to become enormously and predictably profitable, the cost of doing so is only going to rise and continue to eat into revenues enormously. The company has an outsize market capitalization that needs to be justified, and predictably, because investor confidence in the company won't stabilize while the future of its business model is so uncertain. This is why the investor's Facebook looks so different from the user's Facebook. Outrageous, unprecedented success in one sphere has not yet translated into the same in the other. Investors are right to be concerned with this, especially given Facebook's avowed prioritization of engineering over monetization. They like to do what they're good at for its own sake and not simply to make money. This may change as the company matures--and perhaps under the tutelage of future Treasury Secretary Sheryl Sandberg -- but for now, these newly rich hackers do not necessarily feel incentivized to do more than just hack. If Facebook does manage to yoke its spirit of innovation to a mountain of profit, however, it will certainly blow away all expectations big and small.
And so this is the conversation about Facebook: can they unite their clear dominance of a not-clearly profitable technology with the sort of cash-generating business that investors covet? Will we ever get to the point, in talking about Facebook's success, when techies mooning over its hacker chops and analysts poring over their quarterly statements are finally talking about the same thing?
Personally, I think this is a real gamble, but I don't mean that in a negative way. On the one hand, they may stumble unexpectedly into a hitherto unrecognized source of profit. On the other, they may be displaced by yet another start-up that figures out how to do this before they do and despite their head-start. It could go either way. Facebook and its competitors are comprised of very many enormously smart and talented people, but even all this collective brainpower can hardly predict what's going to take off in the marketplace. The sort of success expected for this company, a company that has already achieved more and more quickly than arguably any other company in history, would be something of a financial singularity.
What they do have in their favor: an enormous and loyal user basem quite possibly the largest collection of "big data" in the world, a cozy and important relationship with major player Apple (AAPL), which seems content to integrate the social network into its products rather than compete with it directly, and a possible, confidence-boosting listing on the NASDAQ 100 in its future. While everyone talks about their mobile strategy, I think it is uncertain and potentially unknowable whence their profits might ultimately derive. I do think advertising is a red herring given how far it is from their core product, but I also think it isn't the only possibility for them. And this is why I also think an investment in Facebook is a gamble but a respectable gamble. Because the stakes are so huge and we just don't know where it will go.
One of the best bits of investment wisdom I ever read was a case against shorting. The idea is, shorting a company is like betting against people, betting against all the intelligence, creativity, and drive that the people running that particular company bring to bear to make it better. It isn't qualitatively identical to going long, because going long is taking the side of growth, which is something everyone wants and everyone works for. Very few people work to fail, though failure does happen and the market hardly guarantees that intelligence, creativity, and drive will pay off. In the case of Facebook, an investor needs to decide whether the enormous assets they already possess for making their visions realities are, in fact, likely to pay off.
At current valuations, Facebook looks expensive to some and, compared to similar companies, cheap to others. While I myself would be hesitant to bet on favorable short term outcomes, I am starting to think that, in the long term, a significant buy-in today will look cheap a few years from now. But it is a gamble, and whether you make it depends entirely on what sort of Facebook you're looking at.
Disclosure: I am long AAPL.