I may like to think otherwise, but I’m mostly writing about the recent announcement of an investment that implicitly values Facebook at $50 billion because it’s the finance world’s flavor du jour and I don’t want to miss out on the fun. A secondary motivation, which will drive the bulk of what follows, is to attempt to disaggregate several issues that tend to be lumped together in the way the Commentariat has framed and solicited opinions on the story (at least in my estimation). I’ll also indulge in a bit of speculation, in which I’ll hope to not exhibit too much of the faulty reasoning that I’ve criticized in others’ forecasts.
I will not endeavor to provide an exhaustive framework, but the relevant questions in trying to assess the reasonableness of this (or any) valuation seem to fall in a few related but different buckets:
- Facebook’s assets –what does one make of its products, features, IP, customers, etc.? (Maybe this could also be called something like ‘competitive position,’ although I think that term would incorporate bits of #2 and #3 below.)
- Facebook’s business model – how does it make money or plan to make money from these assets?
- Facebook’s real options – broadly, how might its assets be used to make money in states of the world that don’t currently obtain, or in product-markets in which it doesn’t currently compete? (I’ll recommend a piece from my former employer to introduce real options, which is a topic to which I intend to come back in future.)
- Facebook as a trade – bluntly, is the market value of a stake in the company more likely to go up or down over a short time horizon?
- Facebook as an investment, in a real market context – even more bluntly: is the market value of a stake in the company more likely to go up or down over the time horizon that matters to you as a prospective investor (e.g., a fund manager who gets paid annually for beating a benchmark, a middle-aged worker looking for compounded real returns over decades, etc.)?
- Facebook as an investment, in a financial-theoretical context – does the market value reflect a ‘reasonable’ discounted present value of the expected future cash flows attributable to equity-holders?
There are other considerations that I won’t cover here, instead pointing to thoughtful discussion of issues that may implicitly inform one’s views on the items above. For instance, I’d argue that the discussion of Goldman’s motivations helps persuade me that Goldman thinks this is a really good trade, a la my #4, but (contrary to vampire-squid conspiracy theories) this does not necessarily tell you anything about Goldman’s views on the other sets of questions I’ve raised.
My assertion for now is that the ‘bull case’ seems to focus on items #1, #3, #4, and #5; whereas the ‘bear case’ seems to focus on items #2 and #6. The beauty is that everyone can be right, to some degree, because they will largely be talking about different things and will be able to measure their claims against different sets of criteria. (This is why there are so many experts at forecasting!)
For example, I think a plausible (but not necessarily the expected or most-likely) state of the world five years from now is that: (a) Facebook has become increasingly enmeshed in our lives and, as a result, (b) has accumulated an extraordinary amount of proprietary data about the social graph, which, (c) has actually proven very difficult to commercialize, although (d) there will still seem to be a lot of potential for the platform, in part because (e) Facebook has unexpectedly become the largest distributor of some sort of emerging paid-for content.
My intuition in this scenario is that the $50 billion valuation will have: (i) initially ripped as the result of the most anticipated IPO in years, (ii) marched steadily higher as ‘dumb money’ and momentum buyers tried to get their piece, but then ultimately (iii) drifted to somewhere in the $20-40 billion context as questions about its real commercial potential began to crop up.
You have probably guessed that the preceding two paragraphs reflect my current thoughts about how the Facebook saga is likely to unfold (subject to many caveats and points I’ve not yet raised with respect to tail upside and downside risks). This means that my bulls and bears will have both been (selectively) correct, and everyone but the dumb money will have gotten paid… which is generally how the market always works.
There are many reasons why ‘this time [might be] different’ for Facebook, but on that last point I am certain it is not!