Facebook: $100bn – are you kidding?

Facebook wants us to think it is worth four times as much as BT. Potential investors will argue otherwise

So, about that $100bn figure ... Partly it is because of the breathless anticipation we saw ahead of its flotation prospectus, partly it is because it's such a delicious, round number, but Facebook has failed to dampen expectations that it could hit a $100bn valuation – either when it sells shares to investors over the coming weeks or on what will surely be a frenzied opening day of trading.

Yet there are plenty of reasons to suspect it may not.

The Morgan Stanley bankers who have been hired to run the tech industry's hottest flotation find themselves in a months-long jousting match over the price at which Facebook shares should be sold.

As we saw with previous technology stock offerings last year, potential investors have every incentive to talk down the price, in the hope of getting in at a lower valuation.

And the Facebook prospectus itself has provided the bears with plenty to chew on. For starters, the social network's advertising revenues failed to match up to the levels expected, and the rate at which they are growing has slowed down somewhat over the past year. Year-on-year growth was 87 per cent in the first quarter of 2011, 83 per cent in the second, 77 per cent in the third and 44 per cent in the fourth.

Debra Aho Williamson, advertising industry analyst at eMarketer, whose forecasts were some of the most respected in the industry, believed that Facebook had amassed $3.8bn in revenues from advertisers around the world last year, but in fact the number was shy of $3.2bn.

Her forecast for $5.8bn this year could now have to be cut, even though huge opportunities remain. "Brands in developed countries have agreed wholeheartedly that they need to be on Facebook, but ideas are still developing and the company needs to persuade marketers they need to spend advertising dollars there."

In just eight years, Facebook has attracted 845 million users, more than half of whom use the site every day, and it made a profit of $1bn on total revenues – advertising plus fees – of $3.7bn. Mark Zuckerberg, its 27-year-old founder and chief executive, is making a pitch that the company is just getting started.

"There is a huge need and a huge opportunity to get everyone in the world connected, to give everyone a voice and to help transform society for the future," he wrote in a letter included in the prospectus and published on Wednesday night.

"We believe that we have an opportunity to have an important impact on the world and build a lasting company in the process."

Potential investors will want financial flesh on these rhetorical bones. Mr Zuckerberg and the team at Morgan Stanley are already preparing for a roadshow of potential investors, in which the company focuses on its growth plans.

The prospectus dangled plenty of untapped opportunities, from the expansion of Facebook's payments platform, in which it takes a cut of revenue from transactions on the site, through new services to woo advertisers, to a controversial move into China.

Facebook's bankers have signalled they will trawl the world for investors to ensure demand is as strong – and the price is set as high – as possible.

The prospectus contained specific instructions on the types of institutions and wealthy individuals who could be approached by salesman in the UK, Continental Europe, Hong Kong, Singapore, Japan and the Middle East.

The question is whether Facebook can persuade enough people that its growth prospects so far outstrip Google's that it deserves a multiple of earnings that could be three times that of its rival – something that would be necessary to push Facebook's value to the magic $100bn mark.

Apps explosion

Facebook revealed that $557m of its $3.7bn revenues last year came from taking a cut of payments that users make to Facebook app developers. Can it raise that figure?

The bulk of payments revenue comes via one company, Zynga, which makes Facebook games and often charges players to pay for virtual goods, such as tractors to work on their virtual FarmVille farm.

In his letter to potential investors, Mark Zuckerberg described Facebook as a "platform" and Facebook Payments allows the company to take a 30 per cent cut of commercial transactions happening over that platform, in the same way that Apple takes a bit of revenues to makers of apps.

Mr Zuckerberg expects more businesses to use Facebook as a platform. "We have seen disruptive new approaches in industries like games, music and news, and we expect to see similar disruption in more industries by new approaches that are social by design."

Payments integration is required in apps on Facebook categorised as games, and Facebook "may seek to extend the use of Payments to other types of apps in the future".

Advertisers bite

The speed with which Facebook has been growing revenues from advertising slowed over 2011. Growth is still enviable, at 44 per cent in the last three months, but the company now needs to persuade investors that advertisers will expand their spending with Facebook dramatically.

This could involve getting advertisers to pay more to display ads on Facebook users' pages or in their newsfeed, something they could be willing to do if there is evidence users will click on them more often. Facebook could achieve that by improving the targeting of the ads, and to that end it is trying to encourage users to spend more time on the site and share more information about their preferences.

China beckons

Where there are risks, there are potential rewards – and while Facebook made no mention of a move into the Chinese market in its flotation prospectus, the world's most populous and powerful emerging nation was not absent from the document. Far from it.

China has around 500 million citizens on the internet, and social networking is as ubiquitous there as it is in the West, but Facebook is blocked by the Communist authorities in favour of local sites that are willing to censor. The size of the market and the lack of a single, dominant social network make the Chinese market lip-lickingly interesting for Facebook – and for potential investors in the flotation.

Facebook revealed just how much it has been considering doing business in China, by citing it repeatedly in the "risk factors" section of its prospectus. "We continue to evaluate entering China. However, this market has substantial legal and regulatory complexities that have prevented our entry into China to date," it said. "We do not know if we will be able to find an approach to managing content and information that will be acceptable to us and to the Chinese government."

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