Volume 4 Issue 21: Intelligent Investing

Facebook IPO Tanking - Just As Expected?

So, after two days of trading, arguably the hottest IPO of this year has come in line with our expectations. It started off with a short period of euphoria, causing the price to jump to USD42 but then on Monday's trading, it fell back to USD34, way below its IPO price of USD38. (Update: Facebook's price has hit USD31.00 after Tuesday's (22 May 2012) trading)

In the past, I have written about how IPOs are just a bunch of expensive and evil lottery tickets, and this still holds true. If you remember, I also previously showed that 20 out of 25 IPOs in the last two years have tanked.

Even before the Facebook IPO, some analysts have argued that it would be very hard to justify a USD100 billion valuation on Facebook. But as I said, it is difficult to trust analysts sometimes. So let's do a bit of simple calculation on our own. Let us first note that in 2011, Facebook recorded a net income of USD1 billion. For you P/E junkies, simple mathematics would show that the P/E ratio is about 100 times. But as we all know, the Facebook faithful surely believes that the current price that they are paying is for Facebook's future earnings.

So let us now satisfy the thirst of the Facebook faithfuls. I am going to assume that Facebook's net income will grow at 50% for the next four years, and 30% for another four years, and eventually at 15% after that. I think this is by every means a very generous growth rate, which I would be more than happy to get for any investment I own. But what we are trying to figure out now is, is this kind of earnings growth worth the price tag of USD100 billion. (P/S: For those of you who caught me using net income instead of free cashflow, I am just trying to prove a point and I don't want to go into the intricacies of depreciation, amortization, capital expenditure etc.). Take a look at the Chart 1.

Chart 1

So the blue bar shows the cumulative net income in each year after the IPO. The orange line marks the USD100 billion that you would pay for Facebook if you bought the whole company straight up. I am just going to ignore the Mark Zuckerberg premium because there is no way I know how to value that. As you can see, it would take you about 10+ years for your investment to break even. In other words, it would take you more than 10 years before you begin to start making profits for your investment. Now, from an investor's standpoint, you have to ask yourself, is there a better way for you to get better returns for the next 10 years?

Those of you who are more observant would have noticed that I did not use the net present value of the net income. Assuming that I use a discount rate of 5% per year, the discounted payback period (the smart people's term for breakeven point) would be almost 13 years. Of course, the 5% that I am using is arbitrary. It varies from person to person, but it should be based on your required rate of return or at least, be based on the possible return of your next best alternative.

I will not pretend to know how to value a company like Facebook. Some of you may claim that the growth rates that I have assumed are too conservative. Facebook's potential is much larger that I think. Maybe, maybe not. Nonetheless, you must realize that I have assumed that in the next 10 years or so, there will be no recessions. This is very unlikely, and as we all know, recessions lead to lower advertising revenue for Facebook. The second point is, we have all seen the death of Friendster and Myspace. Now, maybe Mark Zuckerberg is much smarter than the people at those other social networking sites, but honestly, who knows?

I suppose only time will tell.

Disclaimer: All company analyses, including the paper portfolio that appear in this newsletter are derived from facts gathered from various sources and the contributors' personal opinions and for education purposes. It is NOT an invitation to deal in securities, and especially not a recommendation for buying or selling any stock. The contributor(s) do not guarantee the accuracy of the facts being presented. The accuracy of such facts are only as reliable as the sources that they are obtained from. Please consult your investment advisers before acting on any information provided by the analyses here. The authors most likely have interests in the stocks that are discussed in this website.  

Volume 3 Issue 45: Intelligent Investing

Everyone Wants To Be A Billionaire

"I wanna be a billionaire so fucking bad" - Bruno Mars

After the so-called success stories of infamous college dropouts like Bill Gates, Steve Jobs and more recently, Mark Zuckerberg, a myriad of teeny-techies rushed to Silicon Valley to create names for themselves. The trend is still very much on-going, but it has spread beyond just the IT industry. More and more start-ups with brilliant ideas keep popping up. Just the other day, I posted a little story on Dropbox and how it became the Internet's hottest start-up.

The success stories of these "supposedly" normal people are very misleading. I mean, Steve Jobs was adopted, and lived a life full of bumpy roads before guiding Apple to be the biggest tech company in the world. So normal is hardly an understatement. But what is truly understated is the failure rate of start-ups. Every young adult dreams of owning his/her own company some day. It is sad to say, not all of them will succeed. Starting up a company is easy enough. Keeping it alive for more than three years, not so much.

Here is what Zuckerberg thinks about his startup, Facebook:

Zuck revealed a number of fascinating things about entrepreneurship, founding Facebook, and product development, but one of the more interesting (and surprising points) came at the end of the interview when Livingston asked him what he would do different if he could go back in time. Zuck replied: If I were starting now I would do things very differently. I didn’t know anything. In Silicon Valley, you get this feeling that you have to be out here. But it’s not the only place to be. If I were starting now, I would have stayed in Boston. [Silicon Valley] is a little short-term focused and that bothers me.

As I have said time and again. Having long term goals are not only essential, but is necessary. He added:

“There’s this culture in the Valley of starting a company before they know what they want to do. You decided you want to start a company, but you don’t know what you are passionate about yet…you need to do stuff you are passionate about. The companies that work are the ones that people really care about and have a vision for the world so do something you like.”

This mantra simply cannot be repeated enough. Steve Jobs has said it before, and now Mark Zuckerberg repeated it. Here is what Bob Parsons, founder of GoDaddy.com has to say about his 16 rules of success:

1. Get and stay out of your comfort zone.

I believe that not much happens of any significance when we're in our comfort zone.  

I hear people say, "But I'm concerned about security."  My response to that is simple: "Security is for cadavers." 

2. Never give up.
Almost nothing works the first time it's attempted.  Just because what you're doing does not seem to be working, doesn't mean it won't work.  

It just means that it might not work the way you're doing it.  If it was easy, everyone would be doing it, and you wouldn't have an opportunity. 

3. When you're ready to quit, you're closer than you think.

There's an old Chinese saying that I just love, and I believe it is so true.  It goes like this: "The temptation to quit will be greatest just before you are about to succeed." 

4. With regard to whatever worries you, not only accept the worst thing that could happen, but make it a point to quantify what the worst thing could be.

Very seldom will the worst consequence be anywhere near as bad as a cloud of "undefined consequences."  

My father would tell me early on, when I was struggling and losing my shirt trying to get Parsons Technology going, "Well, Robert, if it doesn't work, they can't eat you." 

5. Focus on what you want to have happen.

Remember that old saying, "As you think, so shall you be."

6. Take things a day at a time.

No matter how difficult your situation is, you can get through it if you don't look too far into the future, and focus on the present moment.  

You can get through anything one day at a time. 

7. Always be moving forward.

Never stop investing.  Never stop improving.  Never stop doing something new.  The moment you stop improving your organization, it starts to die.  

Make it your goal to be better each and every day, in some small way.  Remember the Japanese concept of Kaizen.  Small daily improvements eventually result in huge advantages. 

8. Be quick to decide.

Remember what General George S. Patton said: "A good plan violently executed today is far and away better than a perfect plan tomorrow." 

9. Measure everything of significance.

I swear this is true.  Anything that is measured and watched, improves. 

10. Anything that is not managed will deteriorate.

If you want to uncover problems you don't know about, take a few moments and look closely at the areas you haven't examined for a while.  

I guarantee you problems will be there. 

11. Pay attention to your competitors, but pay more attention to what you're doing. 

When you look at your competitors, remember that everything looks perfect at a distance. 

Even the planet Earth, if you get far enough into space, looks like a peaceful place. 

12. Never let anybody push you around. 

In our society, with our laws and even playing field, you have just as much right to what you're doing as anyone else, provided that what you're doing is legal. 

13. Never expect life to be fair. 

Life isn't fair. You make your own breaks. You'll be doing good if the only meaning fair has to you, is something that you pay when you get on a bus (i.e., fare). 

14. Solve your own problems. 

You'll find that by coming up with your own solutions, you'll develop a competitive edge.  

Masura Ibuka, the co-founder of SONY, said it best: "You never succeed in technology, business, or anything by following the others."  

There's also an old Asian saying that I remind myself of frequently.  It goes like this: "A wise man keeps his own counsel." 

15. Don't take yourself too seriously. 

Lighten up.  Often, at least half of what we accomplish is due to luck. None of us are in control as much as we like to think we are. 

16. There's always a reason to smile. 

Find it.  After all, you're really lucky just to be alive.  Life is short.  

More and more, I agree with my little brother. He always reminds me: "We're not here for a long time, we're here for a good time!"

And finally, here is Zuckerberg again:

“The biggest risk is not taking any risk…In a world that changing really quickly, the only strategy that is guaranteed to fail is not taking risks.”

Anyone up for a start-up?

HT: Business Insider, TechCrunch