Facebook Initial Public Offering - Research Paper Example

Finance and accounting During the initial public offering of Facebook, it was predetermined to achieve a valuation that ranges between $75 billion to 104 billion. Prior to official valuation of the stock, the price was hiked as the company aimed to target a large amount of subscribers propelling the price at around $35 per stock share. After a couple of days, they raised the stock price to about $38 per share (Bansal, 2009). The Facebook as one of the popular social media company was supposedly worth a tremendous amount. This high priced per share subsequently raised the price value to $104 billion. In evaluation of this social company, banks use data and merits to value it. Due diligence and consideration was devoted in the selection of the most relevant method to be used. Therefore, the most suitable method used by a number of banks is the equity research method. The miscalculation that was made falls on the side of forecasting the long-term agenda. Initially there was a high demand for the stock because numerous number of potential customers had believes that the market price of the share would increase hence being in a position to earn profits from the investment (Yegge, 2002). This was unfortunate as once the stock was evaluated, it became less lucrative. This was due to the fact that the firm experienced loss due to technical glitches. The valuation too affected Facebook employees negatively who had an eye on valuable shares. The most disappointing issue was the lowering of the interest in stock price by the investors. This was a greatest impediment to the achievement of company long-term goals. The above errors could have been minimized by lowering the price stock. This could lower the cost of investment in stocks. Moderate valuation of the stock price could subsequently increase the demand for the stock as the law of demand states that the lower the price, the higher the demand. The company could accumulate cash reserves for future mergers and acquisitions. More awareness could have been made for the investors to be fully aware of the performance of the stock price in the stock market to cub the risk of incurring the losses once the investors have made solid decisions to invest. Within the first year of performance, Facebook engrossed more investors when Netscape stock was offered at around $28 per share which was equivalent to $75 after a one day of offering. This thereafter, hiked to $171 leading to company market capitalization to be $2.2 billion. Towards the completion of the first year, $16 billion was raised by Facebook. The aggregate raised by social media companies amounted to $43 billion in the year end. The company too managed to sell its shares to the up to about 30%. The financial health of the company improved greatly as there were more cash flows that increased the cash at bank necessary to pay the bills (Parmenter, 2012). The managers became shortsighted as a result of basic improvements in their operations. The firm net profit tremendously rose to 13%. Behind every success company performance are key drivers. One of the fundamental drivers to the success is customer satisfaction. Enhancement of this immensely increases the number of customers as a number of them become loyalty. This can be done by availing the relevant information about the product or the service being offered. At the same time, a manager can wait until the end of the fiscal year to determine the success as there will be a history on a number of events learned for the prior period (Lee, 2013). The manager computes the substandard rate and can make mid-course corrections skewed to firm’s strategy for the company to accomplish its major goal of increasing the net profit. Another driver to the performance is “intangible assets” that explains the differences in the market values. This relates to capability of the company to be managed effectively, some innovations, improvement in the quality and services. These can give confidence the mangers to make sound decisions on various problems at hand. This will add the cash flow, market share and economic value respectively. An alternative method of evaluating the value of the company is the income approach method. This is due to the fact that the method relies exclusively on economic standard of expectation. The value of the company is based on risk level associated with the investment and anticipated economic benefit. The method determines fair market value. This is by dividing the benefit stream generated byTarget Company by the capitalization rate. The capitalization rate converts thestream benefits to present value (Zoltners&Lorimer, 2009). The capitalization rate is composed of two elements namely risk free rate that an investor anticipate from a secure risk free kind of investment. The discount selected must be consistent to the streams of benefits generated. Risk premium is another key element in capitalization rate. The market value is found by taking the share price multiplying by total outstanding market share (market value = market price * outstanding shares). The Face book has shares that are traded in secondary markets like sharespots.com where the investors are High Neworth individuals. Recent contacts Share Price ($) Outstanding shares Market value Date 38 2229631579 84726000000 1/07/2013 42 1961250000 82372500000 31/12/2013 Market value = market price * outstanding shares. 42*1961250000 = $82372500000 38*2229631579 = $84726000000 This reimburses the given investor for relative level of risk allied with a particular investment in excess of risk-free rate. Modified capita asset pricing model: in the model, cost of equity is computed using the model. CAPM model = Rf + B (Rm –Rf) + SCRP +CSRP where Rf = risk free rate of return, B is beta value, ke is cost of equity, Rm is market rate of return , CSRP is company specific risk premium and SCRP is small company risk premium (Cornell, 2009).. The market approach is rooted in principle of competition. In free market, the supply forces and demand forces will drive business to equilibrium. The market price of any given stock is traded publicly in an open market, can be a valid indicator of the transactions which stocks are traded satisfactorily to license a meaningful contrast. Multiple methods: these methods are suitable for start ups. They are based on Evaluation value (EV)/ Earnings before Interest tax and depreciation. EV/EBITDA. The method concerns legal requirement of shareholder value. Consider face book and let us now calculate the its value. Secondary market auctions had its value in the $60 to $70 billion range but because these bare pretty small exchanges of securities, the $50 billion from IPO is probably more realistic. According to the documents, $1.2 billion was made in the first three quarter months of 2013. This is $1.6 billion which equates to 31 times trailing revenue multiple. For instance, we can compare this with yahoo’s $185 billion enterprise value and $29billion 2013 revenue or approximately 6 times trailing revenue multiple. This is a clear indication that people are enthusiastic to pay approximately 5 times for every $1 of face book revenue because of anticipated growth. The 31 times trailing profits multiple could be applied to revenue numbers of a fast growing social networking site, but all possibility there are lots of differences in the essential product to make this an entirely reliable figure. These sophisticated alternative valuation methods of company could provide adequate information about the financial risks associated with the company, the financial health and the fair market value so that the investors do not suffer from “information asymmetry”. This would influence the potential investors either to invest or not to invest according to their interests and perceptions. The main roles of chief executive officer are that as a leader promotes organization of employees in organizing stock products. The officer forecasts the future changes in opportunities, interfaces between the organization and the stock market exchange. As a decision maker, they formulate policies and give recommendations to the board and decide the courses of actions to be taken by the staff (Veld-Merkoulova, 2010). They oversee the operations of the company, manage financial and physical resources and implement plans. The person in this role may have stipulated the codes of conducts to be adhered by the employees related to the stock. The polies that are put in place should be followed to the later so as to avoid inconvenience with the potential investors. As the interface between the organization and investors, the person in this role may have carried out a thorough campaign to create awareness to the people about the stocks (Noe, 2012). The initial potential investors got the rewards for their investments. For instance, the initial price per share was $38 per share which greatly performed within the initial stage to about $42 per share. From the evaluation, it is clearly seen that the investors earned rewards of about $(42 – 39) = $4 per share which is profitable enough (Lloyd, 2013). The shares were taken to investment banker which is a financial intermediary that specializes in selling and issuance of new securities at initial public offering (IPO). The shares of the stock are underwritten by being purchased from issuing firm at an agreed price bearing financial risk of reselling to the public at a profit. Investment banker brings other bankers as partners in respect to formation of underwriting syndicate and hence spread the risks. The banker also advised the investors about the pricing and other vital aspects of stock shares. The company on initial public offer issued shares for general public after registration of shares. Rather than this issuing of shares publicly the investors were allowed to make rights of offering in which shares were offered to existing shareholders on pro rata basis. Initial potential investors bought the shares on margin as they put up part of the required capital which is an equity portion of the investment and represents the investors’ margin. The investors’ brokers lend the transaction magnification of profits. This was one of the main advantages of trading margin (Pratt, 2004). Financial leverage was created when investors purchased the shares. Through this leverage, investors increased the size of their investments or purchase the investments with fewer funds. If the margin requirement is, say, 50%, the investor puts up only half the funds and borrows the other half. Suppose the security goes up 10%. If the investor bought the stock without using margin, he or she would earn 10%. However, if the investor used 50 percent margin, ignoring margin interest, the investor would earn the same dollar return with only half the funds, so the rate of return would double to 20 %. This increased the rate of return which is a reward to the initial investors. The predicted price value for face book is approximately $100. This would generate the operating pre-tax profit to about $2.4 billion on revenues of $4billion making it a most profitable of the social media companies. One of the key drivers that will lead to the achievement of this is operating margins. Face book’s has a current operating margin growth of roughly 45.68 per cent which expected to grow to about 52.89% as the company matures (Zoltners &Lorimer, 2009). The cost of growth: as the revenue of the face book grows, it becomes more difficult and with pressure to pay for the same growth. This will immensely affect tag tile acquisition, instagram and glance. In its subsequent months of growth, the company will be belligerent in its quest of growth which is somehow a bad news. High risk: face book suffers a drawback of experiencing risks that affect the value of the company. The current cost of capital is 11.43% which is expected to hike to about 12%. This will put face book in the topmost quartile of publicly traded firms in terms of risks. Revenue growth: the company has been on a steep growth path, with revenues growing 150% in 2009 and 88% in 2010. A drop in growth occurred in 2011wich led to a moderate growth. This compounded revenue growth of 40 per cent for the next five years with this scaling down after that towards the growth of financial system, the firm will have revenues of approximately $44 billion in ten years which can be in a position to put the growth path as Google in its first years as public company (Provost & Fawcett, 2013). References Bansal, S. (2009).Technology scorecards: Aligning IT investments with business performance. Hoboken, NJ: Wiley. Beatty, A. S., & National Academy Press (U.S.), Educational Resources Information Center (U.S.). (1997). Taking stock: What have we learned about making education standards internationally competitive? : summary of a workshop. Washington, DC: National Academy Press. Busarello, C. (2013). DISCOUNTED CASH FLOW ANALYSIS: A COMPARATIVE STUDY BETWEEN HISTORICAL DATA AND INFLATION PROJECTION (3rd ed.). ConTexto. Cornell, B. (2009). The equity risk premium: The long-run future of the stock market. New York: Wiley. DePamphilis, D. M. 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