Is Investing in Facebook (Nasdaq: FB) Still a Bad Idea?

by Jeannette Di Louie

Is Investing in Facebook (Nasdaq: FB) Still a Bad Idea?

It’s been over a month now since Facebook (Nasdaq: FB) debuted on the Nasdaq to much excitement… and then much frustration.

Though the social media site’s fair value estimates rose from $25.54 in March 2011 to $29.73 in December, its IPO was finally priced at $38 on May 17, the day before it hit the markets. While Facebook steadfastly stands by that valuation, shareholders seem to think it wholly insupportable.

And their opinion reigns supreme for now, as the stock tanked to a low of $25 in early June, and barely saw $33 since.

Diehard Facebook groupies (if they exist) might blame the shares’ slow start on the disastrous way Nasdaq handled the IPO. Somehow unprepared for the ensuing volume, it had to delay the opening by nearly half an hour, sending chaotic shockwaves throughout the rest of the offering.

Admittedly, that kind of widely publicized start is unnerving enough to keep many investors out of the company for a while, even if Facebook isn’t to blame. But recent reports, statements and admissions – some from before the IPO and some after – have cast more negative light on the company.

Recognizing the market’s unrest, CEO Mark Zuckerberg and his team are trying to implement significant changes to the way they do business, especially when it comes to advertising.

But the question remains whether their efforts will be worthwhile or not.

Hope and Change Facebook Style

For all of its faults, Facebook does understand investors’ main gripe against it: Its advertising problem.

As a social media site, it relies heavily on advertising revenue to advance its bottom line. That’s why it features a sidebar filled with one-by-two-inch teasers from wireless services, credit card companies, insurance offers, shoe sites and the like.

But that format might be flawed considering how General Motors pulled its sales campaign right before the IPO. Since then, Debra Williamson of eMarketer notes that other large companies have begun to second guess the association: “… last year they spent a lot of money acquiring ‘likes’ and now they want to know what to do with them.”

And an ExactTarget study done a few months ago postulated that Facebook ads worked less efficiently than their mail and direct-mail counterparts.

Part of that seems to be the changing times, specifically the shift from PCs to smartphones. In February, the Financial Times reported that nearly half of Facebook’s 845 million active users logged on through handheld devices, a number that’s likely to only increase from here.

That’s problematic for a few reasons, including the tiny size of the ads themselves and the overwhelmingly negative response other sites have received for trying to generate revenue from their smartphone-using customers. (Just ask Twitter.)

In the past – possibly for that very reason – Facebook controlled exactly where its members saw ads, and smartphones seemed to be off limits. But after weeks of uninspiring stock growth, Zuckerberg now seems willing to push those boundaries.

Reuters reported in June that the company “is making it easier for advertisers” by “letting marketers craft ads destined specifically for mobile… or users’ news feeds.”

Follow the Earnings, Not the Hype

To be fair, Facebook might actually succeed in its struggle for advertising relevance and revenue. It might manage to somehow appeal to both the companies demanding more screen time and the users who don’t want their social interactions cluttered by sales pitches.

It might pull it off… But then again, it may not.

Leading web analytics service, comScore, just found that Facebook’s audience isn’t doing as well as it could be… The site brought in 158.93 million unique U.S. visitors in March, but only 158.69 million in April and just barely 158 million in May.

CBS, meanwhile, noted a 4.8% drop in unique U.S. visitors over a six-month time frame. That might be due to the unauthorized and/or unannounced changes it frequently makes, such as switching everybody’s listed email addresses to this week.

Between its often-annoyed member base and its often-frustrated client base, there are just too many signs that Facebook has an uphill battle to fight. And its current valuation leaves little room for error…

With a PEG ratio of more than two and a P/E of nearly 80, substantial growth is already priced into the stock – meaning the price could be very sensitive to any hiccups in growth over the next few years.

For a good example of what I’m talking about, look at what happened to the stock of Netflix (Nasdaq: NFLX) last year with its price-hike dilemma. In mid-July 2011, it was trading at insane valuations based on rapid growth. By September, the market had shaved off half of its stock price and now it trades at less than two-thirds its 52-week high. And all this arguably stemming from one poor decision by management.

So until Facebook manages to stabilize itself a bit and show actual signs of growth, investors may want to consider placing their money elsewhere.

Good Investing,

Jeannette Di Louie

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