Facebook is worth $50bn – Is a tech bubble building up?

It may be only a few days into 2011, but tech investors seem to be partying like it’s 1999.

Financiers and investors alike are casting their gaze back to Silicon Valley, in what may be shaping up as an echo of the dot-com craze that minted millionaires on both coasts over a decade ago. As a reminder of those euphoric times, the technology-oriented Nasdaq-100 index on Monday rose to its highest point since February 2001, the waning days of the dot-com bubble.

You have all heard about the latest 50 billion dollar valuation of Facebook based on an investment by some Russian oligarchs and Goldman Sachs through the secondary market. Most probably positioning for an inevitable initial public offering, some are saying that Facebook might be valued at up to $100bn once it is listed on the stock exchange, most likely at some point in 2012.

With 550 million users, and having 15-25% of all page views in US and Europe, Facebook is indeed a very successful company. The number of people using Twitter and Facebook is expected to hit one billion this year, with two trillion adverts set to be delivered via the websites. The vast crowd of consumers flocking to the networks has been hailed as a goldmine for advertisers, but new research from the Deloitte consultancy suggests ad revenues from social networking sites will stall in 2011.

Turning all these users into advertising cash, one of the key attractions for investors in social networks, is likely to prove more difficult than anticipated, the research found. Revenues from the websites are predicted to stall at $5 billion (£3.2 billion), equivalent to only $4 per user, according to Deloitte.

The Facebook deal gives the company an implied value of $50 billion – more than Tesco and Sainsbury’s put together, more than Time Warner and News Corp. Facebook is worth five times its valuation in mid-2009 and 25 times revenue, which is probably $2 million. Google, by contrast, trades at a little over seven times revenue. Companies that have high profit margins tend to get higher valuations from the market. But Google has a profit margin of a 29%, which is already very high. Facebook might have very low expenses, but is Facebook three times a profitable as Google?

The only explanation of this gap between current revenue and the current valuation lies in the potential of Facebook. Investors must be seeing vast prospects and anticipating the profits to double many times in the future, in contrast to what Deloitte seems to think.

Some commentators believe we are witnessing an Internet bubble building up. For the first time since 2000, internet and technology entrepreneurs can raise seed capital with little more than a half-formed idea and a dozen PowerPoint slides. “There is probably a bubble in the number of start-ups,” says Alan Patricof, a venture capitalist, though he is not yet convinced that there is irrational exuberance in later-stage valuations.

Although it’s leading the charge, Facebook isn’t the only company generating interest in tech stocks that have yet to go public. Both Skype and LinkedIn is working towards a public debut this year. Zynga has been pouring gasoline on that fire as well, with investments by Mail.ru, formerly known as Digital Sky Technologies (also an investor in Facebook, including in the latest round with Goldman) and others. Groupon is also a player in this growing frenzy, raising money privately after turning down a reported $6 billion acquisition offer from Google. And Twitter is another star of the private investment market, with funds set up specifically to invest in shares of it and other tech startups via the secondary market for its privately held shares.

If there is a tech bubble building it might be quite different from the one that popped so spectacularly in the late 1990s. Then it was initial public offerings that were overpriced. Today, although the IPO market is reviving, it remains a shadow of its former self. Instead, money is raised from so-called “sophisticated investors” (as in the Goldman deal) via the secondary market. Another main way for the owners of a start-up to cash out is to sell their firm to a bigger one, such as Cisco, Google, Facebook or even Groupon. These tech-savvy firms ought to be less gullible than the stockmarket investors of 1999. But their owners may now be so wealthy that they care less about value for money than the coolness of owning the Next Big Thing.

Nic Flides, The Times; Stephen Gandel, Time; No author, The Economist

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2 thoughts on “Facebook is worth $50bn – Is a tech bubble building up?

  1. Great post indeed, my friend. I see the threats that you mention but I agree more with the huge potential that people think might explain the (existing?) gap. How about Facebook as a search engine of the future, based on recommendations from friends and other members? How about Facebook as the largest source of news based on the Digg principle, applied in the same way to gossip and politics? Call me optimistic but I really think that the potential is infinite… It only matters how Zuckerberg and Co. make use of it.

  2. Sure, I agree, the possibilities are endless and we can say for certain that Facebook is going to add features and do more than it does now, no doubt. I think that Facebook is probably going to be the leader of a long-term social web trend.

    I am not saying that the potential for growth is sluggish and that there are many threats, but that it is interesting that a lot of tech investors are very much out of recession mode – some perhaps acting too bold, too early. Facebook, Twitter etc. do not have proven business models, indeed quite far from it. The ideas of future business models and revenue streams are plentiful, but still merely ideas and 50bn is a very big figure. It is already more worth than News Corp and Time Warner and would be among the 20 largest in the FTSE 100, were it a UK firm! Should be questioned, at least.

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