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Pricing Facebook: Writing's Not on the Wall

With IPOs and the M&A market virtually nonexistent, the social networking site's plan to offer employees a way to cash out some of its holdings complicates efforts to place a value on the private company.

Facebook's

plan to provide liquidity to employees holding stock options in a weak initial public offering market poses a tricky issue for placing a value on the social networking giant in the event they eventually sell the business or go public.

The popular site -- the fourth most trafficked Web site in the world, according to comScore -- is a private company whose valuation has been estimated to be anywhere between $2 billion and $15 billion.

Microsoft

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invested roughly $246 million for a 1.6% stake, placing the company at the high end of that range. But blogger Jesse Chan, writing on

FishTrain.com

, did an

exhaustive analysis

based on numbers the company has made public and places the value at roughly $2.6 billion.

Facebook Status Update: Selling Stock

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While Facebook has exhibited a strong desire to remain independent for the time being, a plan to allow employees to sell some stock offers one way to measure how the company values itself. And the number is much lower than the premium Microsoft paid for its stake.

With the IPO market in the doldrums, tech start-ups are finding that the carrot they offered their employees, private stock, is looking less attractive without an outlet to turn it into cash. So the company is among several of its peers lining up buyers and offering employees a chance to sell some of their holdings based on a valuation of $4 billion.

Facebook walks a fine line. It doesn't want to set its value too high when pricing the employees' stock, yet it definitely wants to value itself highly if and when it looks to cash out in a merger or IPO.

In a recent

Business Week

article, Facebook declined to outline how the employee stock sales would work. Barry Silbert of Restricted Stock Partners says his firm is the largest secondary market for the private Facebook stock. Anyone can sell Facebook shares through the system, but only qualified investors, mostly institutional, can buy them. Facebook has first right of refusal for each transaction.

Without information such as the amount of shares outstanding, it is difficult to put an exact price on Facebook. But the sale of blocks of shares through Restricted Stock Partners suggests the company is worth roughly $9 billion, Silbert says.

On the other hand, venture capitalist Fred Wilson speculates that Microsoft never intended its investment to form the basis of a valuation for Facebook. Wilson, whose Union Square Capital is not invested in Facebook,

wrote on his blog

that Microsoft's paid a premium to forge a strategic relationship it coveted. Conversely, he argued, the amount employees are getting for their stock represents a discount to what is likely a $7 billion price tag on the company.

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"And those kind of discounts are what buyers of secondary private shares usually demand," Wilson wrote. "They are purchasing stock that cannot be resold easily and they are becoming shareholders in a company that they will have basically no ability to control or impact."

Other Web companies are in the same boat as Facebook. The popular professional networking site

Linked-In

also is helping employees cash out up to 20% of its stock, as is matchmaking site

eHarmony

, Silbert says.

The worker bees at these companies have visions of big payoffs like those given to employees at Microsoft or

Google

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when those two tech giants went public. But big paydays have been delayed as the M&A and IPO markets dried up in the credit crunch, damping investor appetite for these companies.

eBay

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paid $1.8 billion for Skype in 2005. However, the experience of rival voice over Internet protocol company

Vonage

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since it went public suggests eBay overpaid.

"Vonage has the same concept, voice over internet, and it got hammered when it went public," says Cyrus Lam of KPMG Corporate Finance. Vonage started out as a $15 stock is currently trading at $1.35.

Lam doesn't see Facebook getting the high end of its range of estimates. He thinks it's a wonderful site, but questions how it can make money.

"Simple banner advertising or text won't make much money," he says. "You go to Google to search and to Facebook for friends. What they are trying to do is fit the friends into the advertising model, when instead they should evolve their own business model." He suggests developing a gaming model, where people pay to play.

Until then, investors are left to their best guesses. Silbert maintains his marketplace for the private stock, which lets the buyers and sellers determine the price, is the best way to place a value on a private company in the absence of an IPO market.

"Venture capitalists are embracing the secondary market," he says.