The Next Problem For Facebook's Stock: Its Employees

Starting next month, more than 1 billion shares of Facebook will be released from lock-up restriction over a short span of two weeks or so. Many of those shares belong to current Facebook employees and it’s a good bet they are going to sell in large numbers, putting new pressure on the stock.

Investors have been bracing for this tidal wave and seen it coming for some time. They have bid up the stock of Facebook anyway, ever since Facebook moved in early September to protect its share price with assurances that Mark Zuckerberg wouldn’t soon be selling any of his truckload of shares and that the company would withhold 101 million shares. Zuckerberg also helped by finally communicating about things during a public appearance.

But the employee problem for Facebook’s stock will continue even after some of its employees cash-in this fall. Facebook’s employees have had to sit on the sidelines since the May IPO, watching the value of their shares plummet while early Facebook investors cashed out nicely. Facebook did do its employees a huge favor by giving them restricted stock units instead of options, meaning they still have lots of value, but for the most part, the many Facebook employees who came in after November 2010 aren’t at the moment making life-altering money; employees who joined up this year got few RSUs. The operational challenge for Facebook is how to retain its talented employees and keep them from feeling they would be more likely to make their Silicon Valley fortune elsewhere because Facebook’s big valuation gains are a thing of the past.

Facebook’s answer is to keep shoveling more shares to current and new employees. Andrew Bary, who wrote the current Barron’s cover story arguing that Facebook’s stock was worth $15, has been thinking about what these new shares will do to Wall Street’s consensus estimate for Facebook’s 2013 earnings of 63 cents per share. Writes Bary:

“Facebook issued $1.4 billion of restricted stock in 2011, or nearly $500,000 per employee. So far this year, the company has doled out $1 billion of restricted stock. Facebook’s reported stock-based compensation expense—based on the amortization of several years of stock grants—could total 20 cents a share next year. Subtract that from the 2013 consensus earnings number, and the shares trade at 50 times earnings. At $15 they would still be valued at a rich 35 times earnings.”

It may well be that Zuckerberg has painted himself in a corner. He plans to keep paying the people he needs to figure out how to boost revenues with more and more shares. But the earnings dilution could continue to sink the stock. Even if Wall Street never accounts for the earnings dilution, Facebook employees will continue to have a boatload of shares to sell. Bary seems to have gotten Facebook’s investors focused on this issue. The stock is down 5% in pre-market trading.