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Quis pendit ipsa pretia: facebook valuation and diagnostic of a bubble based on nonlinear demographic dynamics

Author

Listed:
  • Peter CAUWELS

    (ETH Zurich)

  • Didier SORNETTE

    (ETH Zurich and Swiss Finance Institute)

Abstract
We present a novel methodology to determine the fundamental value of firms in the social-networking sector, motivated by recent realized IPOs and by reports that suggest sky-high valuations of firms such as facebook, Groupon, LinkedIn Corp., Pandora Media Inc, Twitter, Zynga. Our valuation of these firms is based on two ingredients: (i) revenues and profits of a social-networking firm are inherently linked to its user basis through a direct channel that has no equivalent in other sectors; (ii) the growth of the number of users can be calibrated with standard logistic growth models and allows for reliable extrapolations of the size of the business at long time horizons. Illustrating the methodology with facebook, one of the biggest of the social-media giants, we find a clear signature of a change of regime that occurred in 2010 on the growth of the number of users, from a pure exponential behavior (a paradigm for unlimited growth) to a logistic function describing the evolution towards an asymptotic plateau (a paradigm for growth in competition). We consider three different scenarios, a base case, a high growth and an extreme growth scenario. Using a discount factor of 5%, a profit margin of 29% and 3.5 USD of revenues per user per year yields a value of facebook of 15.3 billion USD in the base case scenario, 20.2 billion USD in the high growth scenario and 32.9 billion USD in the extreme growth scenario. According to our methodology, this would imply that facebook would need to increase its profit per user before the IPO by a factor of 3 to 6 in the base case scenario, 2.5 to 5 in the high growth scenario and 1.5 to 3 in the extreme growth scenario in order to meet the current, widespread, high expectations.

Suggested Citation

  • Peter CAUWELS & Didier SORNETTE, 2011. "Quis pendit ipsa pretia: facebook valuation and diagnostic of a bubble based on nonlinear demographic dynamics," Swiss Finance Institute Research Paper Series 11-59, Swiss Finance Institute.
    • Handle: RePEc:chf:rpseri:rp1159
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    Cited by:

    1. Zal'an Forr'o & Peter Cauwels & Didier Sornette, 2011. "Valuation of Zynga," Papers 1112.6024, arXiv.org.
    2. Steven Lim, 2012. "Estimating the Final Size of an Online User Base," Working Papers in Economics 12/15, University of Waikato.

    More about this item

    Keywords

    facebook; social-networking; valuation; IPO; S-curve; logistic growth; forecast; fundamental value; bubble;
    All these keywords.

    JEL classification:

    • D46 - Microeconomics - - Market Structure, Pricing, and Design - - - Value Theory
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • J1 - Labor and Demographic Economics - - Demographic Economics

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