Auburn University finance professor offers comments on drop in Facebook’s stock value

Published: July 26, 2018
Updated: July 27, 2018
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Dr. David Cicero, Auburn University’s Bray Distinguished Professor of Finance in the Harbert College of Business, can offer insight into the dramatic drop in Facebook’s stock value.

He makes three key points:

  1. Investors and analysts use models where they discount future expected cashflows to estimate the current value of any stock. This is somewhat easier with old economy companies that have stable cashflows and the future is therefore easier to predict. However, with new economy “growth” firms, a lot of the current value is a function of the expected growth in revenue and profits in the future, and this can be much harder to estimate (for both investors and firm insiders). In addition, the models for growth companies are highly sensitive to the expected growth rates in profits, so the current valuation can fluctuate a great deal if expected growth rates change, even somewhat modestly. It looks like this is what happened in Facebook’s case.

  2. It is possible for popular growth stocks to be “priced for perfection” because of investor enthusiasm and the fact that the most bullish investors can keep stock prices high. It is very easy to end up with valuations that are too high if we assume that high levels of growth from the past will continue for many years into the future, which can be tempting to do.

  3. Given many investors and commentators concern about the market being overvalued, it is comforting that all of the price impact of Facebook’s announcement occurred quickly and overnight. The stock has been trading flat today, which suggest that the relevant information was incorporated into the stock quickly and it doesn’t seem to have set off a selling spree in either Facebook, the other FAANG stocks (for the most part), or the market more generally. We will get another important signal about these companies when Amazon announces earnings this evening.

David Cicero’s research focuses on agency issues in public corporations, corporate governance and executive compensation. His work has been published in the Journal of Finance, Journal of Financial Economics, Management Science and the Journal of Corporate Finance. Cicero’s research has also been featured by The Wall Street Journal, Reuters, The Washington Post, Harvard Business Review and Businessweek. Before entering academia, he spent time practicing corporate law and served as a financial economist with the U.S. Securities and Exchange Commission.


Interviews:

To arrange an interview with Cicero, please contact Preston Sparks, Auburn University director of communications, at 334-844-9999 or pjs0027@auburn.edu.

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