How does one value Facebook stock as a potential investment?
In the long term, a P/E of 15-25 is the more 'normal' range. With a 90 P/E, Facebook has to quadruple its earnings to get to normal. It this possible? Yes. Likely? I don't know.  I am not a stock analyst, but I love numbers and try to get to logical conclusions. I've seen data that worldwide advertising is about $400B, and US about $100B. If Facebook's profit runs 25% or so and I want a P/E of 20, it needs profit of $5B on sales of $20B (to reconcile its current $100B market cap). No matter what FB growth in sales is, the advertising spent worldwide will not rise or fall by much more than the economy. So with a focus on ads, they would need about 5% of the world market to grow into a comfortable P/E.  Flipping this around, if all advertising were 25% profit (a crazy assumption), there are $100B in profit to be had world wide each year, and the value of the companies might total $2T in aggregate.    The above is a rambling sharing of the reasonable bounds one might expect in analyzing a stock. It can be used for any otherwise finite market, such as soft drinks. There are only so many people on the planet, and in aggregate, the total soft drink consumption can't exceed, say 6 billion gallons per day. The pie may grow a bit, but it's considered fixed as an order of magnitude.   Edit - for what it's worth, as of 8/3/12, the price has dropped significantly, currently $20, and the P/E is showing as 70X. I'm not making any predictions, but the stock needs a combined higher earnings or lower valuation to still approach 'normal.' "You could try this experiment: pay for an Ad/banner on Facebook for 1 month. The Ad/banner should link to your ecommerce site. Then see if the Ad/banner does or does not convert into ecommerce orders (""converting"" means that people coming to your eccomerce site from Facebook after having clicked on your Ad/banner really buy something on your site). If it does convert, you will go on paying for Ads/banners and other people will do the same for their sites, so FB might make cash in next years. But if it does NOT convert you and everybody else will soon discover and stop paying for Ads/banners, thus it will be hard for Facebook to make money with Advertising, thus Facebook might be just a big bubble (unless they find other ways of making money). I did the experiment I suggested above and the conversion rate was an absoulte ZERO!!! (Instead Google Adwords converted well for the same site). So IMHO I would stay away from FB. But remember that stock market is emotional (at least on short periods of time), so it might be that even if FB wil never become a cash cow, for the 1st few months people (expecially small investors tempeted by the brand) might go crazy for the stocks and buy buy buy, making the price go up up up. EDIT in reply to some comments below arguing that my answer was boiled down to one single experiment: General Motors said Tuesday that it will stop paid advertising on   Facebook...the social media paid ads simply weren't delivering the   hoped-for buyers... (CNN May/15/2012) A donkey can not fly either when it's me (with a single experiment) trying to make it fly or the entire GM workforce." "To know if a stock is undervalued is not something that can be easily assessed (else, everybody would know which stock is undervalued and everybody will buy it until it reaches its ""true"" value). But there are methods to assess the value of a company, I think that the 3 most known methods are: If the assets of the company were to be sold right now and that all its   debts were to be paid back right now, how much will be left? This   remaining amount would be the fundamental value of your company. That method could work well on real estate company whose value is more or less the buildings that they own minus of much they borrowed to acquire them. It's not really usefull in the case of Facebook, as most of its business is immaterial. I know the value of several companies of the same sector, so if I want   to assess the value of another company of this sector I just have to   compare it to the others. For example, you find out that simiral internet companies are being traded at a price that is 15 times their projected dividends (its called a Price Earning Ratio). Then, if you see that Facebook, all else being equal, is trading at 10 times its projected dividends, you could say that buying it would be at a discount. A company is worth as much as the cash flow that it will give me in   the future If you think that facebook will give some dividends for a certain period of time, then you compute their present value (this means finding how much you should put in a bank account today to have the same amount in the future, this can be done by dividing the amount by some interest rates). So, if you think that holding a share of a Facebook for a long period of time would give you (at present value) 100 and that the share of the Facebook is being traded at 70, then buy it. There is another well known method, a more quantitative one, this is the Capital Asset Pricing Model. I won't go into the details of this one, but its about looking at how a company should be priced relatively to a benchmark of other companies. Also there are a lot's of factor that could affect the price of a company and make it strays away from its fundamental value: crisis, interest rates, regulation, price of oil, bad management, ..... And even by applying the previous methods, the fundemantal value itself will remain speculative and you can never be sure of it. And saying that you are buying at a discount will remain an opinion. After that, to price companies, you are likely to understand financial analysis, corporate finance and a bit of macroeconomy." "The amount of hype and uneducated investors/speculators driving its prices up. Just by that I would say its prices are inflated. Bear in mind that Facebook don't sell anything tangible. They can go down as fast as they went up. Most of their income is ad based and single-product oriented, and as such highly dependent on usage and trends (remember MySpace?). Having said that, all the other ""classic"" valuation techniques are still valid and you should utilize them."
Even people who did think it was a good didn't really get screwed. If you are an investor who thinks Facebook is a good buy then fucking hold it. The company hasn't even released its first quarter of earnings yet. If the people who bought Facebook are right about it it will be worth it in five years. The fact is we cannot say whether or not that is going to happen right now.   The only people who really got screwed are the ones who wanted to flip it. If you wanted to flip it you lost a lot of money, but the retail investors who figured that Facebook long-term was worth the money, didn't get screwed. They might be wrong and might lose all their money five years from now, but they didn't get screwed yet. "An answer can be found in my book, ""A Modern Approach to Graham and Dodd Investing,"" p. 89 http://www.amazon.com/Modern-Approach-Graham-Investing-Finance/dp/0471584150/ref=sr_1_1?s=books&ie=UTF8&qid=1321628992&sr=1-1 ""If a company has no sustained cash flow over time, it has no value...If a company has positive cash flow but economic earnings are zero or less, it has a value less than book value and is a wasting asset. There is enough cash to pay interim dividends, bu the net present value of the dividend stream is less than book value."" A company with a stock trading below book value is believed to be ""impaired,"" perhaps because assets are overstated. Depending on the situation, it may or may not be a bankruptcy candidate." Source, see if you have access to it Convertible notes are often used by angel investors who wish to fund businesses without establishing an explicit valuation of the company in which they are investing.    When an investor purchases equity in a startup, the purchase price of the equity implies a company valuation.  For example, if an investor purchases a 10 per cent ownership stake in a company, and pay $1m for that stake, this implies that the company is worth $10m. Some early stage investors may wish to avoid placing a value on the company in this way, because this in turn will affect the terms under which later-stage investors will invest in the company.  Convertible notes are structured as loans at the time the investment is made.  The outstanding balance of the loan is automatically converted to equity when a later equity investor appears, under terms that are governed by the terms set by the later-stage equity investor.  An equity investor is someone who purchases equity in a company. Example:- Suppose an angel investor invests $100,000 using a convertible note.  Later, an equity investor invests $1m and receives 10% of the company's shares.  In the simplest possible case, the initial angel investor's convertible note would convert to 1/10th of the equity investor's claim.  Depending on the exact structure of the convertible note, however, the angel investor may also receive extra shares to compensate them for the additional risk associated with being an earlier investor The worst-case scenario would be if the issuing company initially performed well, meaning that the debt would be converted into shares, and subsequently went bankrupt. The converted shares would become worthless, but the holder of the note would no longer have any recourse. Will twitter have to sell their offices and liquidate staff to close this debt? This depends on the seniority(priority) of the debt. Debt is serviced according to seniority. The higher seniority debts will be paid off first and then only the lower seniority debts be serviced. This will all be in the agreements when you enter into a transaction. When you say liquidate staff you mean sell off their assets and not sell their staff into slavery. "Bloomberg suggests that two Fidelity funds hold preferred shares of Snapchat Inc.. Preferred shares hold more in common with bonds than with ordinary stock as they pay a fixed dividend, have lower liquidity, and don't have voting rights. Because of this lower liquidity they are not usually offered for sale on the market. Whether these funds are allowed to hold such illiquid assets is more a question for their strategy document than the law; it is completely legal for a company to hold a non-marketable interest in another, even if the company is privately held as Snapchat is. The strategy documents governing what the fund is permitted to hold, however, may restrict ownership either banning non-market holdings or restricting the percentage of assets held in illiquid instruments. Since IPO is very costly, funds like these who look to invest in new companies who have not been through IPO yet are a very good way of taking a diversified position in  start-ups. Since they look to invest directly rather than through the market they are an attractive, low cost way for start-ups to generate funds to grow. The fund deals directly with the owners of the company to buy its shares. The markdown of the stock value reflects the accounting principle of marking to market (MTM) financial assets that do not have a trade price so as to reflect their fair value. This markdown implies that Fidelity believe that the total NPV of the company's net assets is lower than they had previously calculated. This probably reflects a lack of revenue streams coming into the business in the case  of Snapchat. edit: by the way, since there is no market for start-up ""stocks"" pre-IPO my heart sinks a little every time I read the title of this question. I'm going to be sad all day now :(." One of the problems is that its being marketed at a growth stock.  When Facebook has 900 million users, there isn't exactly a lot of growth left.  The only thing they can do is try to squeeze more money out of their existing user base, which won't be easy to do for people not generally interested in clicking ads or paying for things.  Facebook as a company will continue to do well for a long long time.  It's good they aren't really dependent on the money their stock brings them.  I wouldn't be surprised to see the stock settle around $18-$22ish, even though it probably should technically settle in the $13-15 range. Yeah from what I've read, Facebook is pilling up the profits so they could be in very good position to do the RA as well.   Its crazy if you think about the Google one.. At least $100m more went to the shareholders due to the different fee structure. Why wouldn't you do that if you had the option? "What littleadv said is correct.  His worth is based on the presumed worth of the total company value (which is much greater than all investment dollars combined because of valuation growth)*. In other words, his ""worth"" is based on the potential return for his share of ownership at a rate based on the latest valuation of the company. He is worth $17.5 billion today, but the total funding for Facebook is only $2.4 billion? I don't understand this. In private companies, valuations typically come from either speculation/analysts or from investments.  Investment valuations are the better gauge, because actual money traded hands for a percentage ownership. However, just as with public companies on the stock market, there are (at least) two caveats. Just because someone else sold their shares at a given rate, doesn't mean that rate... In both cases, it's possible the value may be much lower or much higher.  Some high-value purchases surprise for how high they are, such as Microsoft's acquisition of Skype for $8.5 billion. The formula for one owner's ""worth"" based on a given acquisition is: Valuation = Acquisition amount / Acquisition percent Worth = Owner's percent × Valuation According to Wikipedia Zuckerberg owns 24%.  In January, Goldman Sach's invested $500 million at a $50 billion valuation. That is the latest investment and puts Zuckerberg's worth at $12 billion. However, some speculation places a Facebook IPO at a much higher valuation, such as as $100 billion.  I don't know what your reference is for $17 billion, but it puts their valuation at $70.8 billion, between the January Goldman valuation and current IPO speculation. * For instance, Eduardo Saverin originally invested $10,000, which, at his estimated 5% ownership, would now be worth $3-5 billion." "&gt; Wall St ripped off retail investors pretty good  ""Ripped off"" ?  How about ""retail investors did not sufficiently research and think about the company, invested poorly""  Seriously, a 20 minute thought experiment pre-IPO of ""is Facebook worth $100bn, and does it have growth prospects?"" ought to immediately discount the stock. The smart money was always on ""short it as soon as you can""  If you're making investment decisions like ""Hey, I know what that company is. I use facebook!"" you deserve to lose money." FB's IPO was at exactly the right price.  The intent all along was to allow insiders to sell to retail bagholders, hence the large support by JPM to hold the line at $38.0000000, the absolutely legendary hype, and the unusual step of allowing retail in on it. DCF only works with stable cash flows, a new tech company that does not have stable cash flows or even cash flows that are easy to ACCURATELY forecast is a poor candidate for DCF.  Comparables don't really work well in this space as the closest thing they would have is skype and other messager products.  The honest and true value of the acquisition is the value captured/saved by facebook from the decrease in competition and as facebook is in the advertising business, this gives them a way to stay in the lives of their users.  Facebook could argue, the core rationale for the acquisition was to stay current with their users keeping their core product attractive to their customers (advertisers). The worth of a share of stocks may be defined as the present cash value of all future dividends and liquidations associated therewith.  Without a crystal ball, such worth may generally only be determined retrospectively, but even though it's generally not possible to know the precise worth of a stock in time for such information to be useful, it has a level of worth which is absolute and not--unlikely market price--is generally unaffected by people buying and selling the stock (except insofar as activities in company stock affect a company's ability to do business). If a particular share of stock is worth $10 by the above measure, but Joe sells it to Larry for $8, that means Joe gives Larry $2.  If Larry sells it to Fred $12, Fred gives Larry $2.  The only way Fred can come out ahead is if he finds someone else to give him $2 or more.  If Fred can sell it to Adam for $13, then Adam will give Fred $3, leaving Fred $1 better off than he would be if he hadn't bought the stock, but Adam will be $3 worse off. The key point is that if you sell something for less than it's worth, or buy something for more that it's worth, you give money away.  You might be able to convince other people to give you money in the same way you gave someone else money, but fundamentally the money has been given away, and it's not coming back. There are two very large negative factors that affect Yahoo's valuation.   The first is that their search business is in decline and continues to lose ground to Google and even Bing.  There's no sign that they have any plan or product in the works to offset this decline, so there's tremendous uncertainty about the company's forward-looking revenues. The second is that the company can't seem to decide what to do with its stake in Alibaba, clearly the company's most valuable asset.  It they sell it, the question then becomes what they plan to do with the proceeds.  Will they do share buybacks or offer a special dividend to reward investors?  Will they use some or all of the money to make strategic acquisitions that are revenue-enhancing?  Will they use it to develop new products/services?   Keep in mind one other thing here, too.  There's a world of difference between what something is valued at and what someone's willing to actually pay for it.  A patent portfolio is great and perhaps holds good value, assuming the buyer can find a way to monetize it.  How exactly was the valuation of the patents arrived at, and are they worthwhile enough for someone to pay anywhere close to that valuation?   There's more to this than meets the eye by using a first-blush look at asset valuation, and that's where the professionals come in.  My bet is that they have it right and there's something the rest of the market doesn't see or understand about it, hence questions like yours. I hope this helps. Good luck! The Facebook IPO wasn't a debacle. Facebook got maximum value for their shares. That's precisely what you want at IPO. If you sell your stock initially for $25, and next week it's at $35, you've left a hell of a lot of money on the table. "Thank you for the in-depth, detailed explanation; it's refreshing to see a concise, non verbose explanation on reddit.  I have a couple of questions, if that's alright.   Firstly, concerning mezzanine investors. Based on my understanding from Google, these people invest after a venture has been partially financed (can I use venture like that in a financial context, or does it refer specifically to venture capital?) so they would receive a smaller return, yes? Is mezzanine investing particularly profitable? It sounds like you'd need a wide portfolio.  Secondly, why is dilution so important further down the road? Is it to do with valuation?  Finally, at what point would a company aim to meet an IPO? Is it case specific, or is there a general understanding of the ""best time""?  Thank you so much for answering my questions." "People treat an emergency fund as some kind of ace-in-the-hole when it comes to financial difficulty, but it is only one of many sources of money that you can utilize. What is an emergency? First, you have to define what an emergency is.  Is it a lost job?  Is it an unplanned event (pregnancy, perhaps)?  Is it a medical emergency?  Is it the death of you or your spouse? Also, what does it mean to be unplanned?  Is being so unhappy with your job that you give a 2-week notice an emergency?  Is one month of planning an emergency?  Two? Only you can answer these questions for yourself, but they significantly shape your financial strategy.  Planning is highly dependent on your cashflow, and, for some people, it may take them a year to build enough savings to enable them to take 3 months off work.  For others, they may be able to change their spending to build up enough for 3 months in 1 month. Also, you have to consider the length of the emergency.  Job-loss is rarely permanent, but it's rarely short as well.  The current average is 30.7 weeks: that's 7 months! Money in an Emergency There are six main places that people get money during a financial emergency: A good emergency strategy takes all six of these into account.  Some emergencies may lean more on one source than the other.  However, some of these are correlated. For example, in 2008, three things happened:  the stock market crashed, unsecured debt dried up, and people faced financial emergency (lost jobs, cut wages).  If you were dependent on a stock portfolio and/or a line of credit, you'd be up a creek, because the value of your investments suddenly decreased, and you can't really tap your now significantly limited line of credit. However, if you had a one or more of cash savings, unemployment income, and unemployment insurance, you would probably have been OK. Budgeting for an emergency When you say ""financial emergency"", most people think job loss.  However, the most common cause of bankruptcy in the US is medical debt.  Depending on your insurance situation, this could be a serious risk, or it may not be.   People say you should have 3x-6x of your monthly income in savings because it's an easy, back-of-the-envelope way to handle most financial emergency risk, but it's not necessarily the most prudent strategy for you. To properly budget for an emergency, you need to fully take into account what emergencies you are likely to face, and what sources of financing you would have access to given the likely factors that led to that emergency. Generally, having a savings account with some amount of liquid cash is an important part of a risk-mitigation strategy.  But it's not a panacea for every kind of emergency."