How much is Facebook worth?

By Adam Isaac,

Facebook, Inc. (FB) is the prime online social network in the world and currently possesses over 901 million monthly active users ("MAU"), more than 500 million daily active users ("DAU"), and over 125 billion user connections. Facebook users upload more than 300 million photographs daily and about 750 million photographs on every weekend. Users of FB click the "Like" button over 3.2 billion times daily, which lets Facebook track the products and services its users prefer. Moreover, the Facebook website hosts more than seven million applications by third parties, and it is one of the leading online display advertisers in the world.

Facebook IPO was one of the biggest in the recent times; FB shares were offered at a price $38, a price making the stock massively overvalued. At the moment, the stock is trading less than half of the IPO price. At the time of IPO, FB had earnings of $1 billion. With earnings of $1 billion, the company was valued at more than $100 billion, which puts its PVGO (present value of growth opportunities) at more than $90 billion.

At the time of IPO, investors put too much faith in the future growth of the company. However, it seems the faith was misplaced, and the growth is slowing at the moment. In this article, I have made an effort to come up with a fair value for the stock. I have used discounted earnings model; the model makes certain assumptions, which will be explained in the following paragraphs.

Facebook is supposed to be in the hyper growth phase, but in realty, growth in the "new unique users" is less than 5%. Facebook's revenue growth also declined substantially, and the most recent earnings announcement showed a revenue growth of 32%; a much lower growth figure than the previous growth figures of more than 100% growth rate.

Facebook earns revenues through two means; one is by displaying advertisements on its website and the other is the royalties from third-party software developers. FB is currently behind its main competitors Google (GOOG) and Microsoft (MSFT) in terms of revenues per user; FB is generating $1.38 per user while Google generates substantially higher revenue of $9.16 per user. At present, Google offers better advertisement space and enables the advertisers to target customers based on their searches.

Coming towards the model, I have been a little generous with FB and have assumed a growth rate of 40% in revenues before they gradually decline to a stable growth rate of 5%. I believe I am being generous because internet advertising is a fiercely competed market, and there remains few growth opportunities for FB in terms of new "unique users".

All of these factors leave little room for FB to maintain hyper growth in its revenue. Facebook will also have to invest more in the marketing, R&D and administrative expenses. I have assumed a declining growth structure in its expenses, which vary from 5% to 20%. In the model, a constant tax rate of 30% has been assumed, current provision for taxes by FB stand at almost 40%.