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CONTEMPLATING THE CONSUMER PLATFORM OVER THE LONGER TERM
IPO BRIEF – MAY 16, 2012 SUMMARY
Facebook (FB) is set to come public this week. The proposed pricing range has firstname.lastname@example.org been raised based on strong demand. We’ve already put out brief note covering +1-617-934-1877 the basics but will expand on some key elements of the story here that indicate how we will be following their progress. Even at the increased range there is value for investors given that our intrinsic value points to a $60 share price. The biggest factor we see in the medium term is what acquisitions FB choses to make and how well they execute on the integration. We’ve noted quite a few “obvious” ones here including video, search, blogging, location-based sharing, and entertainment but also a few we see as being strategic like information security, sports and even genealogy.
WHAT COMES AFTER SATURATION?
To simplify things let’s just say that FB will have everyone on the internet as a user. Their user base will soon be over one billion and mature markets are already reaching 85% so it’s reasonable. (We will elaborate on the “user” aspect of their business below.) That brings us to the key elements that will have to work for FB to continue to grow and be successful – engagement levels and payments growth. When FB says “engagement levels” they really mean increased monetization. Payments won’t be meaningful for a while so they can be set aside for now. Generating more revenue from users without ruining the experience or alienating the population is likely to be the single most important challenge for the management team. Management is already talking about the difficulty in areas like mobile where small screen size limits content. Because FB is will still be acquiring new users over the next few years they will have some time to understand where user limits are and what type of models will be welcomed versus those that will seem invasive and unhelpful. There’s a fundamental conflict at the heart of monetizing the recommendations of “trusted friends.” Like many things once you introduce money into the mix it can all start to go wrong quickly. Facebook wants their users to see the platform as the place to “connect, share, discover, and learn” with friends and family. However the setting for this type of interaction is mostly non-commercial. Content like social games creates engagement and revenue for Facebook. We expect the best path to increased monetization for FB will be in the form of more acquisitions to add content and additional platform elements. Specifically these make the most sense: Video: It’s a natural extension of their current strength in photo sharing. Links to YouTube content are a big part of sharing on FB. They will want their own and it will be easy for them to leverage. Tumblr: Maybe it won’t be Tumblr but it should be. So far the ability to express yourself on FB is limited. Many users maintain blogs and share links to their posts on Facebook. A simple blogging platform like Tumblr as part of your presence on FB is natural and provides another foundation for interaction from sharing, commenting and incoming links. This would probably also be a fairly simple product to build and launch as long as it provided import capabilities to allow users to shift over preexisting content. Mobile/Location: Foursquare is a good example but others like Belly are emerging quickly as well. Right now Facebook doesn’t have much connection to location-based content and interaction and that’s a massive part of Facebook IPO Brief 1 May 16, 2012
So far FB management has tended to brush aside these concerns (even when related to minors) but this isn’t sustainable. company and stock is that the jury is still out. It’s deeply personal and an obvious part of your “social graph. 2012 . A “more social search” with better semantics around personal content like music. Facebook IPO Brief 2 May 16. movies. Our base case intrinsic valuation IV is attached on the next page. Our research has shown a major shift to new authentication and information security technologies is upon us and accentuated with mobile. It’s another universal interest that can host user generated content and applications like rotisserie leagues and content sharing. However the part that FB wants to own is the discovery and sharing aspect which is doable but requires a little finesse on the structure. Genealogy: We’ve followed Ancestry. How they navigate as a public company with a $100B+ market capitalization and $10B+ in cash will be watched carefully.com (ACOM) in the past and they have an interesting and defensible model.mobile where they admit monetization will be a struggle. But a larger risk looks in terms of information security and online safety. Although music makes sense it’s problematic in that the content is not user generated and requires licensing and substantial costs. There are also some potential deals that we’d like to see them do but it’s not clear they are heading in this direction: Sports: Yahoo has proven that you can make a mint on building community around sports. Since FB Connect is very important the integration of more proprietary security software would fit well. Search: Yes Google and Microsoft already “own” search but our work has suggested that not only is a new search engine a great investment financially it would serve FB in keeping users engaged and on their site. But the most accurate way to describe investor attitudes toward the management team.” We’d cheer if they made this acquisition but doubt it’s in the cards. This could be build or buy but there are hundreds of existing engines out there and one or more of them would probably be a better way to get into the market. Security: So far most of the concern around FB has been about privacy and control over your own information. news. This is an area where timing is important and FB may be well advised to make greater strides here very soon. The deal will be successful and the stock should settle in somewhere between our 2012 and 2013 IV estimates of $50 and $60 respectively. CONCLUSION & VALUATION It’s clear that FB is the most successful new technology company to come into the public market since Google. Music: It’s already been hinted that FB would do more with music and discussions about a potential acquisition of Spotify were frequent for a while last year. Which acquisitions they chose to do first and how well they execute post acquisition will be used to solidify a verdict one way or another. reviews and anything produced by friends would have obvious appeal.
448 $1.135.0% $882.121.605 $201.767 $2.00 $1.0 -81.796 29.078 28.5% $3.929 $96.511 $0 35% 40 15% Cash Debt Tax Rate P/E Multiple Discount Rate 2% $68.887.0 $2.00 $111.095.154 $55.3 35% -$36 -13.512.812 2010 1197.7 35% $170 21.4% 27.5% $280.511 95 $282 $63.7% -$3.0 31.14 26.00 12.500 48.59 2014 2000.9% $76.100.431.962.3 48.0 $6.5 $10.0% $4.091 $32.5 27.0 $1.0 33.240 31.5% $1.3% $144.0% $941.832 $9.0% $2.0% $5.0% 9.00 2138 Ticker Exchange Rev Growth Current Price Shares Out $8.2% 26.4% $80.2% -$55 -$19.5% 25.718.0 7.0% 10.0% 11.683 $586.9% $17.0 29.3% $1.0 7.0% $808.9% $32.0% $3.0% $1.8% 11.8% $115.350 27.0 54.0 29.4 35% $2.088 $132.129 $14.50 12.0 73.0% $2.0 $11.689 $775.064.988 $11.0 17.8% 45.0 22.656 $10.3% $184.0% 10.0% $605.0 154.350 33.350 21.98 2013 1850.439.89 95 -$15 $35.8 43.0 -20.6% $124.564.0 11.0% $1.5% $388.887 2408 $84 $9.0% 11.5% 11.0% 23.7% $223.5% $1.5% $2.119.0% $1.2 35% $671 34.0% $4.481.3 35% $5.7% $700.1 35% $4.1% $121.0% 10.0 $4.0 74.028.0% $3.6% $90.9% $59.68 2011 1737. 2012 .937 $9.0 7.7% $1.197 $1.0 7.0 74.6% 26.0 52.5% $427.5 75.0 $5.0 $554.3% $83.777 $92.3 35% $1.6% $203.745.0% 10.0 37.355 $824.0% $3.8% $2.1% -$1.4 35% -$81 -52.752 $73.8% $61.201 $111.0 71.362.0 35% $2.0 $272 77.2% $87.0% $794.5% $551.9% $81.83 95 $72 $47.0 74.8% 25.230 $12.0 $15.032 $361.974 $441.430 2009 505.0 $5.0% $1.0 $13.5% $3.426.0 $7.0 $1.5% $1.00 $1.5 48.7% $262 $91.5% $24. Dilution Cap (M) FB Nasdaq 80% $32.919.974 154.183 2181 $28 $14.6% $292.008 $6.5 $935.0 75.0 74.0% $493.0 52.837.0% 9.529 $8.104 $6.2% $860.5% $6.400.585.277.851.505.765 $43.7% 28.0 $148.0 $9.541 31.195 $338.0 42.2% 20.4% 25.0% $7.224 $153 2007 2008 119.906.972 $115.2% $20.0 80.9% $6.8% $41.8 7.0 6.5 26.5 $11.135.711 88.618.5 75.4% $123.966 $41.5 26.0 8.450 18.598 2314 $61 2016 2100.057 2269 $49 2015 2000.838 2361 $72 2017 2400.59 86% Intrinsic Value Up/Downside $29.826 $141.0 76.8% $45.173 $50.3% $47.0 46.0% $440.3% $1.0% $1.3 30.5 75.2% 25.911.00 10.0% $654.0% 10.0 49.850 17.048 31.5 7.0 $777 185.531 27.1% 25.0 11.648 $169.109.416 Avg.0 $112.0 47.301 $1.39 2012 1789.0% 9.5 28.652 2138 $21 $80.454 Facebook IPO Brief 3 May 16.283.00 $1.Facebook FB 16-May-12 Dec YE YoY Change $ Total Revenue YoY Growth COGS % COGS $ Gross Profit Gross Margin S&M % S&M $ R&D % R&D $ G&A % G&A $ Operating Expenses % Operating Expenses $ Operating Margin Operating Income Taxes Tax Rate Net Income Net Margin Market Value Using P/E Cash Position Shares (M) Period Share Price PV of MV 4 Years Out PV of Cash 4 Years Out PV MV + Cash PV Value Per Share 95 -$34 $26.0 $3.345.141 30.3% 14.0% $26.2% $236.087.756 $614.541 $59.241.261 2224 $37 $17.5 7.0% -$124 -$43.0% $2.6 35% $1.523 $2.8 35% $3.7% $449.
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