Facebook: Zuckerberg Headwind?

With CEO Mark Zuckerberg planning to sell millions of shares, one needs to consider whether Facebook (FB) faces a headwind from constant selling. The social networking giant has seen the stock rise considerably since Zuckerberg originally considered the creation of Class C shares that would allow him to sell shares and still control voting rights similar to the move that Under Armour (UA,UAA) made last year.

The stock has risen considerably this year going from $ 115 at the end last year to $ 170 now. Is the move by the CEO an ominous sign of the valuation of Facebook?

Back on April 27, 2016, Facebook released the proposed plan to allow CEO Mark Zuckerberg to unload 99% of his outstanding shares without losing voting rights. The new Class C shares could be unloaded while he could keep his existing Class A and B shares that maintained existing voting rights.

Shareholders sued as the issuance of two new shares for each Class A and B share would lose economic value due to not holding voting rights. Though virtually meaningless due to the control of Zuckerberg, the recent Under Armour example proves that the non-voting shares would trade at a discount.

ChartUAA data by YCharts

Under Armour has traded straight down since announcing the intent for the Class C shares plan in 2015 and implementing the shares in April 2016. Facebook has seen the opposite move since announcing the Class C shares intention. The legal battle over the Class C shares might’ve provided a buffer for the stock.

The company settled the suit due to canceling the issuance of the controversial Class C shares for an ominous reason. Zuckerberg made the following statement via a post on Facebook regarding the reasoning for canceling the shares:

Over the past year and a half, Facebook’s business has performed well and the value of our stock has grown to the point that I can fully fund our philanthropy and retain voting control of Facebook for 20 years or more. As a result, I’ve asked our board to withdraw the proposal to reclassify our stock — and the board has agreed.

I want to be clear: this doesn’t change Priscilla and my plans to give away 99% of our Facebook shares during our lives. In fact, we now plan to accelerate our work and sell more shares sooner. I anticipate selling 35-70 million Facebook shares in the next 18 months to fund our work in education, science, and advocacy.

So in essence, the stock has gained so much value that he can sell enough shares to fund his charity plans for the next few decades without impacting his ability to control the majority of voting rights. At the mid-point of his target share sales over the next 18 months of 52.5 million shares, Zuckerberg would raise over $ 8.9 billion by the start of 2019.

At a market value of close to $ 500 billion, the impact to Facebook appears rather immaterial at this point. As well, the average daily trading volume is about 16 million shares. His plan is to dump the equivalent of 3 million shares per month so one can’t envision any liquidity issues or pressure on the stock at those volumes.

The problem with this plan is the mental aspect of the CEO consistently dumping shares. Going back to the Under Armour example, one probably isn’t surprised to see that the company lost focus and underperformed in the last year. Will the same happen at Facebook?

Even worse is a looming issue if the stock sells off due to Zuckerberg losing focus as these moves to liquidate positions appear to occur when the CEO sees extreme value in the stock. The major problem occurs down the road when the company is faced with the dilemma of needing to rethink the Class C share plans while he is actively unloading shares creating a headwind in the stock. Don’t think this isn’t possible as the market has a way of humbling the best intentions of world-class CEOs.

Facebook isn’t exactly an expensive stock trading at roughly 26x 2018 EPS estimates of $ 6.49. Revenues are expected to surge nearly 30% next year so my only concern is that the CEO was so shocked by the growth rate and stock gains this year that the company has pulled revenues forward. Zuckerberg would’ve never suggested a controversial plan if he had the vision that the stock would reach a $ 500 billion valuation so soon.

The key investor takeaway is that Facebook isn’t exactly expensive considering the forecasted growth rates. One has to question though if the moves by the CEO aren’t top ticking the stock, which could easily occur if the social network sees a slowdown in growth rates as revenues reach $ 50 billion next year. After all, Zuckerberg clearly doesn’t see a higher stock price and didn’t predict Facebook even reaching the current level suggesting one should be cautious at $ 170.

Disclosure: I am/we are long UA.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: The information contained herein is for informational purposes only. Nothing in this article should be taken as a solicitation to purchase or sell securities. Before buying or selling any stock you should do your own research and reach your own conclusion or consult a financial advisor. Investing includes risks, including loss of principal.


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