Relationship Between Facebook’s Capital Structure And Dividend Policy

Capital Structure of Facebook Inc

The company’s profitability is basically dependent on the performance of the business as well as the capital structure and the dividend policy which plays an important role in the functioning of the business. The capital structure of the company comprises of debt and the equity. It is seen that the best capital structure for the company is the combination of both the structure which comprises of debt and the equity (Crowther, 2018). This helps to minimise the cost of capital of the company and also helps in getting the benefit of having focus on the operations of the business. However the capital structure of the company is dependent on many factors such as the industry classification, collateral value of the asset and the cash flows that it would generate throughout the year. The dividend policy of the company is considered as the one of the policy which helps the company and which reflects the company’s financial status. This can also be regarded as the one of the indicator of the company’s profitability as this shows the paying of company’s profitability directly to the shareholders. However it is being seen that the company’s does not share the revenue that they generate to the shareholders of the company rather they use it as a retained earning so as to invest it again in the operations of the business so as to achieve the maximum profits. The decision to not to share the earnings of the company to the shareholders depends on the directors of the company. The board of director of the company are considered as the base line on the basis of whom the strategy of the business is mad and implemented. This report will help in analysing the relationship between the company’s capital structure and the dividend policy through analysing the financial performance of Facebook Inc. At last of the report that proposal would be given which would help in discussing the role of finance in planning and risk management.

Facebook is a social media platform that was founded in the year 2004 and has become world’s biggest social media platform till now connecting many users in the world together. The company held its initial public offer in the year 2012 where it was valued at $104 billion (DeTienne, McKelvie & Chandler, 2015). Which was considered as the largest valuation till date for the newly listed company. The stock of Facebook started to sell after 3 months of its listing. The company has currently around 2.2 billion active users which are sharing their contents on Facebook live with each other. The company ranked on the 76^th position in the year 2018 in the Fortune 500 list of the largest United States Corporation by its revenue.

Dividend Policy of Facebook Inc

In the year 2018 Q4, it is seen that the company reported revenue of around 55,013 million as compared from 39,942 million in the previous year. Which increased around 38% from the last year (Graham, Harvey & Puri, 2015). This is revenue that is generated from the advertisement business of the company. Also they have achieved the revenue of 825 million dollars in the current year with contrast to 711 million in the year 2017 which is around 16% hike. It is also revealed that the company’s net income has changed by 39% as compared from the income of the previous year which was 15,934 million. The company also revealed an EPS of around 7.57 per share which is again a 40% increase as compared from the previous year.

The one of the main function of the financial manager of the company is to identify the adequate capital structure of the company that would benefit it best and in reliable manner. The company always try to achieve the ideal status of maximising the profit by minimising the cost that is included in the capital of the company. However for the companies there is no predetermined optimal and best suitable capital structure which would help the company to achieve maximum profits. There are different optimal ratios for different companies whether they are big in size or are having different development stage. Hence it is important for the company and the directors of the company to study the topic and define the terms and conditions which are related to it. The research that has been done by Zeitun and Tian founded that there is short term debt to the total asset ratio has a significant influence on the working of the company as a whole (Hershfield, John, & Reiff, 2018). Also it is seen that if the company is more profitable then it would have a higher tax burden on it. Also a research was conducted on the Omani company which stated that debt is not considered as the primary source of funds for the company to take its capital. As the Omanian companies has special system and regulation on the tax computation. Also it was founded that the companies in India are different and the leverage on the company has the negative correlation with the profitability of the company as it is seen if there is more debt in the company’s capital then it would lead to less profit and vice versa. Also it is seen in many cases and the researchers also discusses that the choice of capital structure has a very low impact on the firm’s financial as well as the profitability performance of the company.

Analysis of Financial Performance

Dividend is considered as one of the important structure and the part of the company performance distribution system. It is always considered as one of the most critical and complex decision that is made by the directors of the company. The main aim of the company is to maximise the profit of the company as well as to maximise company’s productivity and its performance. Hence the managers of the company has to perform the role of adjusting the firm dividend strategies in a manner so that it is profitable for both the company and the shareholder as a whole (Kim, Gutter & Spangler, 2017). The managers of the company has also to decide about the time and the stage in which the form the dividend of the company has to be paid. For this the stage of lifecycle of the company and the stock price influence on the dividend has to be taken into consideration. While studying the major stock markets in the world it is founded that the companies which are large in size and the companies which has a high amount of EBIT pays a good amount of dividend to their shareholders. It is also seen that the dividend changes has a positive correlation with the further earning of the company.

As it is seen in the consolidated balance sheet of Facebook Inc. while in the year ending 2018, the capital structure of the company included only includes the equity portion which is considered as a strong pint foe the business organisation.  Also the company WACC is considered as the cost of capital that the company raises so as to operate its business. The company’s targets to minimise the cost that is involved in it. As per the annual report of the organisation the company has the capital structure which consist only of equity capital which is generated from the principle source of the business. The company has offered a good number of ordinary shares to the investors of the company (Kumar & Goyal, 2015). The company does not have any outstanding loans from the bank or other form of lenders and is operating its business on its own. The PE ratio of the company is considered as 21.57 and the EPS is 7.57. It is seen that the companies operating margin is 44.52% which is greater than the industry and the ROE is 27.93% which is again considered as higher industry average.  It is seen that the WACC of Facebook incorporation is 10.03%. It is seen that the WACC of the company is considered at a good level and is industry leading. It is seen that Alphabet and Tencent holdings ltd are two major players in this industry with having a similar WACC number.  As it is seen that the amount of capital of Facebook is much more higher than all the firms in the industry so the WACC is considered as suitable as compared to other rivals in this industry.

Return on Asset as a Primary Indicator

There includes various financial performance reflectors which helps to evaluate the profitability of the company as a whole. These indicators includes gross margin, return on asset and return on equity. The financial status of the company is given under:

This report is based on Return on asset as a primary indictor of the financial performance of the business of Facebook incorporation. It is the business of the company which helps to reflect the efficacy of the business so as to generate the maximum profit. This is most effective factor which helps to reflect the profitability so that the comparison can be made with the rivals and the group of industry.

From the annual report that has been published by the company to their shareholders it is seen that it consist of good amount of profits and revenue has increased significantly (Lichtenberg and et. al., 2016). This is seen that company is using the net cash which is achieved by its operating activities in operations again. This indicates that they are tending to increase the operation of the business without using the debt capital as a whole.

It is seen that the trend of the company differs when the company got listed on the stock exchange. So the report shows a different trends of income that is generated prior to the companies listing and after listing.

From the year 2004 to 2012

So it is seen that before the company was listed on NASDAQ, it was not as profitable as it is now. But it is seen that the business of the company expanded and in its initial year it was very much expected to earn the profits. While it was seen that the company was growing consistently the net income and the revenue of the company was increasing at a higher rate. The company was listed as a Florida LLC (Martin, & Gomez-Mejia, 2016). For the first few months of its launch year. As in the year 2004 they got their first investment from the Peter Theil of $500,000 and the shares was diluted to 10.2% of the company’s board. Also it was seen that the company got an investment of around $12.7Mn which helped in valuing Facebook at $98Mn. As the company was increasing gradually and was being one of the profitable company in world and in the year 2006 it was seen that company was able to achieve investment of $27.5Mn. This helped the company to get its valuation around $500. Also it was seen from the cash flow statement of the company that during the year 2005 Facebook gained a net income of $5.66Mn. Which was a great figure in the second year of its working. It was seen that the company got a negotiation deal which was declined by its director, the deal was as high as it rose to $2Bn from $750Mn.

Recommendations for Finance Planning and Risk Management

The company was rapidly increasing its operation and it was seen that in the year 2007 the company got around 1.6% share of Facebook for $240Mn which increased the value of company to around $15Bn. The company also started to acquire some of the good projects which helped them to expand their operations. These includes Friend Feed which was a start up by the Gmail first engineer. It also acquired Octazen solutions, Divvyshot which were acquired at an undisclosed amount. But in the year 2010 the private shares of Facebook showed a valuation of around $11.5Bn.

From the year 2012 to year 2018

As the company was initiated its expanding procedure and filed an initial public offering on 1^st Feb, 2012. The company was seeking to raise around $5Bn as an initial offering. Also it was seen that the stake of the director if the company Zuckerberg will retain 22% of the ownership share and will also own 57% of the voting rights. The initial rating of the share was done at $38 each and the company also was rated at $104Bn which was considered as the largest valued newly public company (Miller, Whitlatch & Lyons, 2016). As the companies share were in highly demand so they decided to sell around 25% more shares. The company also raised around $16Bn which was third largest in the US history. The price of the share of the company left it with the higher market capitalisation which surpassed various companies such as Amazon, McDonalds, Disney and many more. On the first trade day of the listing of the share the stock of the company struggled to stay above the IPO price which let the underwriters to purchase the shares to support the price. As the company was all equity company from the year and was not having any Fund raised from the outside source it has less and very few amount of cost of capital.

The above chart shows a weighted average share outstanding of the company. As it is seen that the shares are increasing to a level and is now saturated to 2921 which is good figure for the company. While in the year of its listing the company acquired a photo sharing app known as Instagram which was valued a t $1Bn in cash and in stock (Oppenheimer & Kelso, 2015). This helped the company to increase its profit. The company’s current portion of Long term Debt for the quarter which ended in the year 2018 was $991Mn. It has a Long term debt and capital lease obligation of $0 for the year ended 2018. The total Equity of the company for the year 2018 was $84,127Mn. The debt to equity of the company for the current year was 0.01 which is considered as all equity company.

For further understanding on the company’s profitability the companies ROA would be compared with the peer group. For this the competitive comparison has been done by the company peers of the same industry. This includes the following chart.

The company’s current return on Asset is considered to be the around 29.01% which is a good return that the company has. Here the company annualised the net income for the quarter ended 2018. Where it got $27,582Mn and the total asset of the company for the quarter ended 2018 was $94,893Mn. Hence the return on asset was considered as good for the year.

As per the annual report of the company the dividend payment history of the company is summarised as below.

It is seen from the past record of  the company that they are not sharing the part of profit of the company with their  shareholders as dividend. As per the company point of view they do not have a pre defined dividend policy (Stewart and et. al., 2018). However the board of directors of the company decides about the amount and the percentage of dividend that they have to pay to their shareholders. It is decided by them on the basis of capital demand and business forecasting.

As it is seen from the above table that the company’s total growth and the Earnings has grown to 48% which is considerably a good return that they have generated to outperform the stock of other companies. It has been seen that in the past few years of the company the free cash flow has risen by more than 10 times and nearly to $16Bn on annualised basis. Also the net income of the company has tenfold between the years 2013 to the year 2017 which gives a plenty of room for giving some return to the shareholders of company.

It is also seen that the facebook has not revamped its all the capital for reinvestment purpose. The capital expenditure of the company has also incresed. The company spent around $5.7Bn on the capital expenditure which make them use less then 30% of its operating cash and cash aquitsitions.

It is also seen that the company was agrressively active in aquiring and investing up in the companies which helped them in generating the revenue. The company is being elevated and is in a good position if we look at the annual report of the company.  it is seen that the strong financial report of the company supported its business strategies and also helped in expanding its business to the parts that are untouched (Trianni, Cagno & Farné, 2016).  As it is seen that the companies WACC is around 10.03% due to which this is considered that company generates higher return on investment than its cost to the capital. The firm is earning in excess. As the company that expects to continue generating positive excess returns on new investments in the future will see its value increase as growth increases. This WACC is seen from the comparison that can be made with the peers of the same industry. As the company is having relatively very less cost of capital which would make it achieve the future profitability and would also help in generating a good amount of ROI. The company’s return on invested capital was around 64.97% which is considered as one of the best in the industry.

It is seen from the report that there is no correlation between debt and the equity of the company. As the company does not have a part of capital in form of debt which means that the company is fully working on the equity and is dependent upon equity as a whole. Due to this the company is not having an extra opportunity to develop and further accelerate the expansion strategies (Von Gaudecker, 2015). So it is required for the company to further reconsider its capital structure. For the company to achieve a higher ROA, the ratio of equity as well as debt has to be maintained at a significant level. So as to determine and propose an optimal capital structure the EBIT-EPS approach should be applied. The formula for which is given below:

EPS= (EBIT- Interest Expense)*(1-Tax rate)/Number of share outstanding

This is an illustration which would help the company in achieving the objective of best capital structure.

Assumptions:

1. Facebook needs around $150Mn for acquiring another company in the year 2019.
2. The companies EBIT after acquisition would be 30,000Mn after acquisition.
3. The two of financing are
   1. Issuing 5000000 shares at the price of $30 each.
   2. Selling the bonds at 10% interest rate.

Hence it is seen that the company took a right decision on the capital structure to maintain the equity balance and not to hold debt in its capital.

Conclusion

From the above report it is seen that the capital structure and the dividend policy of Facebook is best and gives a supportive indicator of potential growth. The company’s relationship with the ROA and the influence on the profitability of the company was analysed in it. The company was listed on NASDAQ in the year 2012 where they used a high amount of capital. The company is benefited from the advancement of the internet and the social network platform that they have developed. The directors of the company used a series of smart financial decisions which helped them to achieve the objective of maximising the sales of the company. Today this is the world’s largest social media site which has its operation in around all the parts off world.

References

Crowther, D. (2018). A Social Critique of Corporate Reporting: A Semiotic Analysis of Corporate Financial and Environmental Reporting: A Semiotic Analysis of Corporate Financial and Environmental Reporting. Routledge.

DeTienne, D. R., McKelvie, A., & Chandler, G. N. (2015). Making sense of entrepreneurial exit strategies: A typology and test. Journal of Business Venturing, 30(2), 255-272.

Facebook Inc Class A 2019 [Online]. Available throughhttps://www.gurufocus.com/stock/FB/

Facebook Inc  (NAS:FB) ROA %: 29.01% (As of Dec. 2018)  [Online]. Available through https://www.gurufocus.com/term/ROA/NAS:FB/ROA-Percentage/Facebook%20Inc

Facebook, Inc. (FB), 2019 [Online]. Available through https://in.finance.yahoo.com/quote/FB/financials?p=FB 

Graham, J. R., Harvey, C. R., & Puri, M. (2015). Capital allocation and delegation of decision-making authority within firms. Journal of Financial Economics, 115(3), 449-470.

Hershfield, H. E., John, E. M., & Reiff, J. S. (2018). Using vividness interventions to improve financial decision making. Policy Insights from the Behavioral and Brain Sciences, 5(2), 209-215.

Kim, J., Gutter, M. S., & Spangler, T. (2017). Review of family financial decision making: Suggestions for future research and implications for financial education. Journal of Financial Counseling and Planning, 28(2), 253-267.

Kumar, S., & Goyal, N. (2015). Behavioural biases in investment decision making–a systematic literature review. Qualitative Research in financial markets, 7(1), 88-108.

Lichtenberg, P. A., Ficker, L., Rahman-Filipiak, A., Tatro, R., Farrell, C., Speir, J. J., … & Jackman Jr, MD, J. D. (2016). The Lichtenberg Financial Decision Screening Scale (LFDSS): A new tool for assessing financial decision making and preventing financial exploitation. Journal of elder abuse & neglect, 28(3), 134-151.

Martin, G., & Gomez-Mejia, L. (2016). The relationship between socioemotional and financial wealth: Re-visiting family firm decision making. Management Research: Journal of the Iberoamerican Academy of Management, 14(3), 215-233.

Miller, L. M., Whitlatch, C. J., & Lyons, K. S. (2016). Shared decision-making in dementia: a review of patient and family carer involvement. Dementia, 15(5), 1141-1157.

Oppenheimer, D. M., & Kelso, E. (2015). Information processing as a paradigm for decision making. Annual review of psychology, 66, 277-294.

Quarterly Earnings 2019 [Online]. Available through https://investor.fb.com/financials/default.aspx 

Stewart, C. C., Yu, L., Wilson, R. S., Bennett, D. A., & Boyle, P. A. (2018). Correlates of healthcare and financial decision making among older adults without dementia. Health Psychology.

Trianni, A., Cagno, E., & Farné, S. (2016). Barriers, drivers and decision-making process for industrial energy efficiency: A broad study among manufacturing small and medium-sized enterprises. Applied Energy, 162, 1537-1551.

Von Gaudecker, H. M. (2015). How does household portfolio diversification vary with financial literacy and financial advice?. The Journal of Finance, 489-507.

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