Is it Time to Buy Facebook?
Douglas is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
As the stock that starred in one of the most anticipated IPOs ever continues to tumble ever lower, it seems that joining the throngs of naysayers panning Facebook (NASDAQ: FB) is a waste of text.
While nobody can deny that with one billion users, the company deserves a seat at the proverbial table, there are three primary questions that need to be answered: investors want to know if there is a price at which the stock becomes a value, if the company can turn its users into revenues and what business model will get it there. As answers to these questions continue to linger in investment community limbo, Facebook remains a company that everyone wants to like, wants to have a reasonable reason to own and continues to remain elusive.
What’s the Magic Price?
In one sense, the answer to the first question above is dependent to the answers to the second two. In a more abstract sense, however, one wonders if there is a “leap of faith price” that investors should target. Investors from Warren Buffet to Jim Cramer all preach the same mantra when it comes to disciplined investing: own companies for which one can understand how their products work and how they make money. This seems to be a challenge with Facebook because despite understanding how its portal works, even defining its product is confusing. Without even a hazy idea of what the company is selling, it is impossible to understand how it can make money.
Despite the lack of focus in understanding Facebook’s plan for revenues, there is a sense that the company will eventually figure it out. Whether one attributes this belief to hope or the track record of Mark Zuckerberg in getting what he wants, the belief is out there. Enter the aforementioned “leap-of-faith” price, meaning the price at which one trusts that the company will get on track and believes the stock is so cheap that the path to success need not be clear to take a gamble. The stock is currently carrying a forward P/E of 28.7, so one could argue that just above $18, it might be time to trust. For those not ready to take the risk – which, to be fair, is significant – a price of $15 is attractive, and at $12, the risk-reward likely favors “liking” the stock.
Where’s the Dough?
The difficulty in monetizing high user bases is not unique to Facebook. LinkedIn (NYSE: LNKD), which has more experience operating as a public company, has faced similar challenges. The company is currently trading at a trailing P/E near 880 and a forward P/E of 81. While it has yet to become a serious revenue producer, as the company continues to redefine how professionals manage their careers, it is less difficult to understand how this model can be monetized.
Groupon (NASDAQ: GRPN), on the other hand, has an easy-to-understand business model and has yet to generate a profit. The company is set to roll out a new version of its software and hopes that the release will help it turn the corner, particularly in the mobile sector. One of the biggest challenges for Groupon is that Google (NASDAQ: GOOG) has entered the space. The ad behemoth, which is one of the few market participants that has solved the monetization question with outstanding results, is using its GPS-enabled technology to target consumers by location and proximity to the businesses being advertised. The model has hurt Groupon’s business, but provides some insight into where Facebook has a chance to succeed.
The issue that Google’s participation illustrates for a potential Facebook model is one of relevancy. As advertisers become more interested in efficiently targeting their ads to consumers who are both nearby and interested in their products, Facebook has real potential. If the company can devise a method by which to target ads by known likes and dislikes, coupled with user location, the company may finally have a salable product upon which it can compete. In a realm in which technology changes quickly, history has shown the Mr. Zuckerberg has a knack for delivering.
While picking a bottom for Facebook could prove as expensive as it is difficult, there are reasons to keep the company on one’s radar. Not only does it have the potential to tap into one of the largest collections of users available, it is a company that many investors are subconsciously rooting for. Before making a core allocation to the stock, seeing evidence that the company has adopted a workable business model would be wise. On a speculative basis, however, if the stock falls much more, it may just be worth the risk.
Mr. Ehrman has no positions in the stocks mentioned above. The Motley Fool owns shares of Facebook, Google, and LinkedIn. Motley Fool newsletter services recommend Facebook, Google, and LinkedIn. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. If you have questions about this post or the Fool’s blog network, click here for information.