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Facebook: Keep the Faith?
Facebook: Keep the Faith?
By: Sandeep Amar

Facebook is going through a tough period with share price going below $20, allegations of paid clicks driven by bots and poor financial outlook. Facebook recent financial reports – second quarter financial results and 10-Q filing – have revealed the company financials and other metrics for the first time. The financials and metrics are not encouraging, which has pushed the share under $20, a 45% fall from the IPO price. I will give my analysis in form of some facts and myths:

Fact – Overvalued IPO: Facebook IPO was overvalued at $104 billion on a revenue base of less than $4 billion for the year. The private market valuations were highly speculative primarily basis Facebook audience strength rather than financials. Even on day 1 of trading underwriters had to buy back the shares to keep the share price near IPO levels. The underwriters Morgan Stanley, JP Morgan, Goldman Sachs and Facebook are facing investigation for not disclosing correct earnings information before IPO. Some allegations include the fact that executives from these firms and Facebook cashed out in early part of trading. The FB PE Ratio was above 100 at the point of IPO, and even Google had PE ratio above 100 in the first few months of IPO – but at a lower valuation. To sustain this kind of valuation Facebook had to do something amazing every quarter.

Fact – Facebook Financial Mess: Facebook never had a reputation for good financial management. With the current quarter financials heavily hit by stock compensation of $1.3 billion dollars – most analysts are not pleased about the volume and the management of the same. This left the second quarter having a loss of $157 million – which also came as a result of “benefit of provision of income tax of $ 0.6 billion”. In addition to this most of the outlook given in 10-Q filing is not promising – both in terms of revenue and audience growth.

Part Fact – Part Myth: Facebook growth is basis fake users: This was always the fact and most industry people know that there is a base of fake profiles and farms. Facebook has acknowledged that 8.7% of its profiles are fake and 4.8 % of its profiles are duplicates. But this information should not be very shocking as this was a known fact – with most of these profiles created by marketing companies claiming to build a solid fan base very fast. Even if Facebook has 80 million fake accounts, that still leaves them with 870 million plus genuine accounts – which is huge number. As per the graphs released in 10-Q, the audience growth is strong and base is large – although growth will slow down as Facebook has grown faster than internet growth:

 

Myth – Facebook is making losses and revenue is not growing: The $157 loss is the most quoted number for Facebook in last 2 weeks, which makes it look like a loss making company. As mentioned earlier that this happened due to one time large adjustment of stock based compensation of $1.3 billion. 80% of the share based compensation and related expenses are for pre-2011, therefore majority of these expenses will not occur again. The total operating expense other than this adjustment was around $0.6 billion, which leaves Facebook with a decent 40% gross margin. In the next quarter you expect the numbers to stabilize and gross margins in excess of $0.4 billion. From the revenue charts released in 10-Q, the numbers are growing and bright part is in growth of non-advertising revenue in second quarter of 2012 of overall revenue, showcasing a 57% increase over second quarter of 2011:


Part Myth – Part Fact – Facebook paid clicks are coming from bots: Few days back a start-up “Limited Run” levelled accusations against Facebook that 80% of its paid clicks from FB were coming from bots. They were able to test this through various analytics tools and once they tried their own tool, it gathered that 80% of the clicks had javascript disabled. This is indicative of these clicks were generated by bots, as general percentage of javascript disabled browsers is not be more than 2%. This has created a furore in the industry and many others have come back with similar claims. Facebook has also announced an investigation in this matter. Again it is a public matter that there are fake profiles and bot activity on Facebook. In my personal experience of various Facebook campaigns, this has not been a problem and 70-80% of Facebook clicks are tracked. I asked 2 campaign managers in India, who are running multiple Facebook CPC campaigns; even they are able to track at least 65% of Facebook clicks. In my opinion this is an issue, but not an epidemic. Still I may be proven wrong, and we need to wait for investigation results by Facebook.

They key challenge for Facebook remains to be a highly overvalued IPO – they have the audience, and they have the opportunity to increase revenues. But the overvalued IPO has put a lot of pressure on Facebook to do something extraordinary every quarter. Facebook has given conservative estimates of revenue growth and audience growth in 10-Q(released 31st July), which has hit the share price in last two days. This will be a big challenge for Mark Zuckerberg to manage the expectations of share market, which he has not been able to do till now.

Authored by Sandeep Amar - Head of Operations - Marketing /Audience/Sales Strategy at Times Internet Limited. The article is originally published here.