The valuation and method used to determine the Initial Public Offering value of Facebook stock
The valuation and method used initially for the determination of Facebook’s Public Offering involved numerous factors employed to determine the best estimate of their Class B common stock. Among the factors considered included the transactions of the recent private stock sale; financial results of Facebook over the past, estimation of trends, and the prospects for the future financial performance of Facebook's. Other factors also put into consideration included performance and market position of the competitors of Facebook in the industry. Also, the performance of similarly traded companies like Facebook was put into consideration. Moreover, the economic environment, as well as the competitive environment and the industry where Facebook operates, were of critical importance. An independent third party valuation was also conducted.
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The process of calculating the initial Facebook’s IPO also involved combining both financial and market-based methodologies to evaluate the enterprise business value (Short, 2014). A Discounted Cash Flow method was carried out and involved carrying out estimations of the future cash flows for a particular period and discounting them to the present value. The discount rates used reflected both the risks and the market rates that were available from the other alternative investments as at the date of valuation.
Another method used in the valuation of Facebook was the guideline public company (Short, 2014). This method operates under the assumption that similar business operating in a similar industry are subject to sharing similar characteristics. As such, the value of such companies will correlate to such characteristics. The methodology estimates the value of the company by deriving from multiple stock prices (Krigman, & Jeffus, 2016). On the other end, the market transaction method lays focus on equity securities of the company under evaluation. For instance, in 2011, Facebook engaged in private stock sale transactions on the common stocks of Facebook. Such transactions are only considered when they happen among willing and nonrelated parties (Short, 2014).
As for the market transaction method of valuation, Facebook undertook a valuation through evaluating all the transactions in the quarter laying emphasis on those that were closer to the valuation date. Therefore, from the valuation view, some errors resulted due to high expectations instead of tenable valuations. Facebook prices are very sensitive to value driving assumptions. Some of such assumptions may overshoot the reality i.e. the 63% growth over a period of 5 years (Krigman, & Jeffus, 2016). Consequently, the exercise may worry investors especially when investing in the initial public offering.
The performance of the stock within the first year of the public offering, indicating the drivers of the performance and the resulting impact to the company performance
Within the first year, Facebook witnessed great gains in adjusted earnings as well as revenues. The results beat the expectations of Wall Street. However, some investors anticipated a blowout which did not materialize. Analysts like Michael Pachter were shocked that the stock was off at all and that every metric save for spending for Facebook looked well (Krigman, & Jeffus, 2016).
In their fourth quarter, Facebook reported $64 million in profits posting a better performance from the previous year which was $205 million (Krigman, & Jeffus, 2016) Facebook reported in the fourth-quarter a turnover of $64 million in comparison to a turnover of $205 million from the prior year. The revenue short from $1.13 billion to $1.59 billion (Krigman, & Jeffus, 2016). Facebook would also report that 23% of advertising revenue is generated from its mobile revenue. Also, Facebook mobile users grew larger than the desktop users in their fourth quarter of 2012 (Krigman, & Jeffus, 2016).
The drivers of Facebook’s performance were the key decisions made by Facebook. They were critical in driving forward in growing the headcount which would then total to 1.1 billion monthly active Facebook users. The statistics would indicate that it was a 25% growth every year. Do achieve the growth the expenses grew at a rate faster than revenue. The CEO Mark Zuckerberg still feels there are areas that they need to invest in. As such, they have been investing in the construction of the best mobile platform experience as well as an unbending monetization engine.
An alternative method of valuation for the company valuation indicated and how it may have yielded a different value and the potential resulting impact to investor decision
Facebook can adopt an unconventional method for valuation by using the price-earnings ratio. This method can be looked at based on estimated earnings. It is because markets look forward and not backward-looking (Fernandez, 2015). By adopting this relative measure, the valuation of Facebook appears to be placed somewhere between the comparable companies. A critical look at Facebook’s price-earnings ratio in relation to the company’s history, it can be deduced that its stock trades at a low end of the range as per assigned by the investors over the last three years. Price-earnings analysis as a method is often confronted by a few limitations (Fernandez, 2015).
Although Facebook as a company has had positive earnings, the period that the company, as well as its peers, have been having, positive earnings have been limited. Secondly, the price-earnings method of analysis is more reliable when a company’s earnings are not subjected to factors that are transient. For instance, in 2013, Facebook had a $9million charge against their earnings (Krigman, & Jeffus, 2016). This is a modest figure and Facebook just like other companies might not have another special charge. As such, this kind of items is not always subjected to adjustment. Other methods like the price to book ratio would be harder to use in the valuation of firms in the social networking industry since they are nascent. Therefore, for a similar analysis of Facebook, companies should only perform either price-to-sales ratios or price-to- cash-flow because they offer better analysis than others valuation tools.
The role of the Chief Executive Officer in relationship to the stock performance
The chief executive officer of Facebook has a role which retains the majority voting power through carrying out an implementation of a dual class structure of stock. It implies that he can focus on the long term company y performances without necessarily getting worried about being fired by the shareholders following a few bad performances in the recent quarters. It is because Zuckerge controls the company and if the CEO has control over the company, it is not easy for investors to fire them making it easy for them to make long-term decisions they may find correct (Daily & Dalton, 2015).
For a higher level company like Facebook, the CEO Mark Zuckerberg deals majorly with higher level decisions and strategy as well as giving directions for the company’s overall growth. Zuckerberg has a passion for success and is in charge of maintaining the longevity of Facebook. For Facebook, the CEO is tasked with a lot of strategies that ensure that Facebook maintains and even adds to its competitiveness with other social media sites in the industry. It would, therefore, imply that the company revenue would rise which pushes up the value of its stock. Moreover, the long-term strategies that Zuckerberg engages seek to strengthen the value of the company and so does the stock. Perhaps what a person in his role would do differently would be to adopt a personal approach to making a transformation meaningful. The personalizing transformation would yield the energy required in bringing the desired change.
Evaluating the risk/ reward position to an investor when purchasing stock during an initial public offering indicating under what circumstances an investor would do so.
Initial public offerings can be rewarding but can also be one of the severest risks of an investor. Among the risks involved when an investor enters into purchasing stock in times of an initial Public Offering include the volatility risk. Such risks occur when the share prices fluctuate and are not stable. They can be caused by changing profits in the company as well as changing economic conditions. The other is the absolute risk. The Absolute risk refers to the fear that one’s shares would be worth nothing. For instance when a company goes missing. It is prudent to weigh such risks before investing. However, some of the rewards include providing an opportunity for an investor to invest in what could turn out to be a big stock in future for a lower investment cost.
Predicting the stock price of Facebook over the next five years
For 2017 and beyond, the future of Facebook stock prices are forecasted to be as follows: in the first quarter of 2017 is 129 with a Maximum value of 143, and a minimum of 127, the stock prices would be, in the second quarter 117 in the open, 119 at the close. In the third, 129 at the opening, and 134 in the closing. The last 135 and 129 in the closing quarter of 2017 would have 131 (The Economy Forecast Agency, 2016).
The forecast over the next 5 years would be as shown in the table below.
Figure 1 Facebook stock forecast for next years, source ( The Economy Forecast Agency, 2016)
The key drivers of the performance are increased availability of internet across the world coupled with affordability and penetration of smartphones which results in increased revenue and subsequent increase in stock prices.
References
Daily, C. M., & Dalton, D. R. (2015). Corporate governance in the small firm: Prescriptions for CEOs and directors. Journal of Small Business Strategy , 5 (1), 57-68.
Fernandez, P. (2015). Valuation using multiples: How do analysts reach their conclusions? Retrieved from https://www.researchgate.net/publication/4803035_Valuation_Using_Multiples_How_Do_Analysts_Reach_their_Conclusions.
Krigman, L., & Jeffus, W. (2016). IPO pricing as a function of your investment banks' past mistakes: The case of Facebook. Journal of Corporate Finance , 38 , 335-344.
Short, T. L. (2014). Friend This: Why Those Damaged During the Facebook IPO Will Recover (Almost) Nothing from NASDAQ. Wash. & Lee L. Rev. , 71 , 1519.
The Economy Forecast Agency. (2016). Facebook stock forecast for next months and years . Retrieved from http://longforecast.com/stock/facebook-stock-forecast.html .
