PrivCo Facebook Valuation: May 2012

Financial Projections, Valuation Analysis, Share Price Fair Value:

Facebook, Inc.(NASDAQ: FB)

(PrivCo Private Company Ticker: FACEP)

Copyright © 2012 PrivCo Media LLC. All Rights Reserved.

May 16, 2012

Private Company: Facebook, Inc.


PrivCo Private Company Financial Analysis

May 16, 2012



PrivCo Investment Thesis on the Social Media Industry and Facebook

• PrivCo: Social media/social mobile industry remains a strong basket of companies, still capable of massive 20x-100x returns for investors.

• PrivCo: Facebook has a solid business model and capable management, but was a great investment 6-7 years ago when it could still generate huge returns given its risks.

• PrivCo: A basket of younger private pre-IPO companies with a more attractive valuation such as Twitter, Spotify or Pinterest for example offer greater reward given the high risks of internet industries. (Company names provided are for illustration only and not investment recommendations)

• PrivCo: Facebook at $100B is overvalued and not worth its risk/reward profile.

• PrivCo investment strategy: (1)Proxy investments in the pre-IPO social media basket via secondary markets

(2)Pair Trades to bet on the long term growth of social media by shorting Facebook while going long on the pre-IPO social internet basket via secondary markets or public companies (e.g. LinkedIn). (Company names provided are for illustration only and not investment recommendations)



Material Strength : User Engagement

• Stickiness compared to the competition Facebook user engagement (405 minutes per month) outperforms rival social networking sites: 4.5x Pinterest

and Tumblr, 19.3x Twitter

• High Switching CostsUsers have a high barrier to switching to another network, which can involve rebuilding their own network.

• “Network Effects”As more users join, the more useful and valuable the network becomes

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User Stickiness

Avg min/user as of Jan 2012

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Material Weakness 1: Decelerating Revenues

• PrivCo: During Q1 2012, Facebook had its first ever quarterly revenue decline of -6.4% to $1.06 billion.

• PrivCo: During Q1 2012, Facebook experienced declines in Ad-revenues (-7%) and Facebook Credits/Payments (-1%).

• PrivCo: Q1 is “seasonally weak” for Facebook, but seasonality does not explain the decline. Facebook managed a flat Q4 2010 to Q1 2011.

• PrivCo: With same ad-revenue based seasonality at this same stage pre-IPO, Google managed sequential revenue growth of 27.2%, dispelling Facebook’s explanation of its weak results and 1st quarter revenue declines as due largely to “seasonality.” If Google could still grow 27% from Q4 to Q1 before its IPO – at a similar size and age as Facebook – why was Facebook unable to do so?







• Q1 2012 vs. Q4 2011 Google managed a slight increase (0.6%) despite the seasonality of the ad spend calendar while Facebook fell.

• Q1 Seasonality Argument Fails to account for decline. Google experienced gains both during 2012 and at the same stage pre-IPO. Facebook's declining growth is specific to Facebook and reflects clear organic slowdowns in its business.

• Q2 2012 ProjectionsPrivCo expects FB will miss Q2 projections as declines are due to rapid mobile usage and Facebook’s failure to monetize that format



Material Weakness 2: Mobile Adoption

• Rapid Mobile Growth Facebook has yet to discover a monetization solution for its rapidly expanding mobile base where it simply lacks space for ads: 54% of March 2012 monthly active users (MAUs) were mobile users.

• Rapid growth in mobile and Facebook’s inability to monetize it has negatively affected Facebook’s profitability.

• $1B Instagram Acquisition Facebook’s reactive acquisition of Instagram and their mobile base was in part to address its own unmonetized mobile base.

• Facebook’s S-1 Statement Re: Mobile “We have historically not shown ads to users accessing Facebook through mobile apps or through our mobile website. We do not generate any meaningful revenue from the use of Facebook mobile products.”



Material Weakness 3: “Little Remaining Dry Powder”

• Introduction of new, more intrusive ad formats is a clear response to poor ad performance.

• Sidebar ads increased from 5 to 7 per page.• Forcing the Timeline upon its users to

increase page views per visit.• Allowing sponsored “brand stories” in brands’

fans’ newsfeeds; then allowing brand ads into fans’ friends’ newsfeeds.

• Larger “Premium-ads” which offer video and sound capabilities.

• Facebook has little real-estate remaining to increase advertisements.

PrivCo: Facebook’s recent ad changes were for one time revenue infusions pre-IPO and its proceeding quarters. These measures failed to boost Q1 2012 revenue and will not be repeatable in 2013 and beyond.

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Rising Facebook Ads per Page



Material Weakness 4: “Facebook Fatigue”

• FB Use Declining Among Internet Users In 2011, Facebook users globally reduced the frequency of key FB activities: searching for new contacts or sending message to friends

• Users Are Rejecting Timeline Facebook altered its successful platform in favor of timeline which offered greater ad space and clicks per page.

• “Frictionless Sharing” Automatic newsfeed updates regarding the user’s songs listened to or articles read because human to human sharing had declined.

PrivCo: “Facebook’s strict implementation of the timeline platform may be the worst corporate blunder since New Coke in 1985. We would not be surprised to see a re-adoption of Facebook’s more popular prior format.”



Material Weakness 5: Emerging Markets As Cost Centers

• Average Revenue Per User Dropped during Q1 2012 to its lowest point in over a year at $1.17.

• Growth in Emerging Markets Facebook’s new users are coming from developing countries, which are difficult to monetize as big brands generally do not advertise in these regions.

• Net Cost Centers Emerging markets must become net profit centers as they are currently increasing costs faster than revenues.

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Facebook Quarterly Revenue Per Monthly Average User



Unmodeled Facebook Upside Potential: China

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Facebook Monthly Active Users US & Canada

(in millions)

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RenRen Monthly Active UsersChina

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Unmodeled Facebook Upside Potential• Untapped China Market:

– China has the world’s largest internet market with over 500 million internet users, but Facebook has virtually zero presence there.

– Chinese equivalent RenRen had 38 million MAUs (7.6% of Chinese internet users) as of FY11, while Facebook had reached 65% of North American internet users at FY11. At that rate, China penetration could offer 325M users.

• Facebook App Center:– Facebook has an existing app platform and plans to launch its App-Center

soon.– Facebook will receive 30% of paid-app sales. (Apple’s top ranked app store

generated approximately $1.6BN during FY11 according to Apple estimates.)

• Facebook Social Search Engine:– Facebook has currently integrated its personal information into the new Bing.– Facebook has the potential to become its own social search engine given the

amounts of personal information and engineering capabilities of Facebook.



Unmodeled Facebook Potential Downside• Mass Migration to Competitor:

– Facebook operates in a competitive industry where users have other social media options such as Google+, Twitter, or Pinterest.

– Internet industries are also susceptible to unknown new start-ups which can upend an established competitor similar to Facebook’s elimination of MySpace.

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• Mobile Adoption Becoming Ubiquitous:– Mass mobile adoption will threaten Facebook’s ability to generate ad revenues.

• Weakness of Competitive Position:– Facebook cannot sustain costly acquisitions of young competitors such as

Instagram who rapidly threaten its base.– Instagram’s $1 billion price tag demonstrates how a young company can

quickly pose a serious threat to Facebook’s competitive position.



PrivCo’s Facebook ForecastsPrivate Company: Facebook, Inc.


PrivCo’s Facebook Forecasts• PrivCo’s Assumptions:

– Facebook’s revenue will continue to be adversely affected by rapid mobile adoption.

– Facebook’s costs will continue to rise as its user base expands particularly via unmonetizable emerging markets and mobile.

– Facebook Payments revenue will grow at a faster rate than advertisements as Facebook introduces new features such as the App Center, Search and Facebook Offers.

.



Facebook Valuation: Current Stock Price

• Facebook’s $34-$38 price range offers an initial valuation $85.4B- $95.5B.

• PrivCo projects the final share valuation could be adjusted by as much as $2 above the high-end range with an ultimate target valuation of $95.5B-$100.5B.

• Facebook’s final private market trades went for $44.10, giving a valuation of $104B.

• At a $100B valuation, Facebook is asking for 18.6x its forecasted 2012 revenues of $5.4B.



Facebook Valuation 1:Public Comparables (Enterprise-Value to Revenue Multiples)

Revenue* Enterprise Valuation Rev Multiple

Google $35,460,000,000 $197,310,000,000 4.3

Yahoo! $4,470,000,000 $18,630,000,000 3.7

AOL $2,120,000,000 $2,430,000,000 1.0

LinkedIn $908,000,000 $11,080,000,000 11.5

Yelp $131,000,000 $1,240,000,000 8.5

• PrivCo estimates a typical valuation of a tech company around 5x-10x revenues while Facebook currently asks for 18.6x.

• Given forecasted OI of $2.07B for 2012, Facebook is asking for slightly below 48x OI multiple which is much larger than its publicly traded peers.

*Projected 2012 Revenues




• Based on these comparable companies’ weighted average of enterprise value to revenue multiples, PrivCo believes a 9x revenue multiple accurately reflects Facebook and should be applied to its projected 2012 revenues.




• Applying a 9x revenue multiple to Facebook’s projected 2012 revenues of $5.4B results in a Facebook valuation of $60.3B.

• Based on the valuation and Facebook’s 2.5 billion shares outstanding, PrivCo prices fair value of Facebook’s stock at $24.12/share, significantly below the $34-$38 IPO price range.



Facebook Valuation 2: Discounted Cash Flow

• Present value calculations for all future cash flows (net income) plus cash on hand results in a Facebook valuation of $62.6B.

• Based the valuation, PrivCo prices fair value of Facebook stock at $25.05/share, significantly lower than the IPO price range.



PrivCo’s Facebook (NASDAQ: FB) Share Value Conclusions:

Short-Term “BUY”• Facebook shares will Pop in their opening days due to (1) media attention,

(2) “retail investor puts” (i.e. small investors will buy regardless of price providing a built-in demand backstop to short term price), and (3) limited allocations to IPO investors which will increase FB’s price upon opening trades.

• Recommendation: Buy at IPO price of $34-$38 to flip into short-term pops.

Long-Term “SELL”• Facebook is materially overvalued in its current range between $85B and

$95B.• Facebook will experience a post lock-up sell-off that will drive down future

prices. • PrivCo analysis concludes that markets will likely correct FB’s price after an

initial pop into a long-term fair value $24-$25 range, which falls significantly below the $34-$38 IPO price range.



PrivCo’s Facebook (NASDAQ: FB) Share Value Conclusions:

• PrivCo Predicts a Post Lock-up Sell-off of FB Shares due to the following:

1. RSUs: • RSUs are taxable immediately upon vesting/conversion to FB shares. • FB shares must be sold to cover shareholder tax costs.

2. Rising Capital Gains Tax: • President Obama plans to allow the George Bush Capital Gains Tax Cut to

expire next year. • FB’s lock-up period ends 1-month before the increase, and shareholders

will off-load FB positions before the increased tax.

3. Public Float • Facebook’s float on public markets post lock-up will be massive in an

absolute sense with over 1 billion shares - over $40 billion – in public float: larger than most of the S&P 500’s market capitalization..



PrivCo’s Final Forecasts of Where Facebook (NASDAQ: FB) Will Trade:

• Facebook will be offered above or at the high-end of its $34-$38 range.

• Facebook’s initial trades will pop well-above the IPO price given its hype, and massive demand by IPO investors.

• HOWEVER, PrivCo believes that Facebook is ultimately overvalued at $100B, and markets will correct Facebook’s price per share below its IPO range into a $24-$25 range with a post lock-up sell-off that could further further diminish FB share price.

• PrivCo’s Final Conclusion: Facebook (NASDAQ: FB) is a very short-term “BUY”, and a long-term “SELL.”



Analyst Contacts: Sam Hamadeh, J.D./M.B.A. Christopher Minora Jeffrey WaynePhone: 917-701-1887 Phone: 646-499-4550 Phone: 212-645-1686 Email: [email protected] Email: [email protected] Email: [email protected]

Disclaimer• Neither PrivCo nor its employees are owners or stakeholders in Facebook stock.• PrivCo does not offer investment banking services. • PrivCo assumes no responsibility for decisions based on information presented in this report.


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PrivCo Facebook Valuation: May 2012

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