Facebook (FB, Financial) is the largest social network in the world, by far, connecting more than 1.6 billion active users per month. It is also a return on investment goldmine for advertisers wanting to target customers based on a wide variety of data points. It’s the only social network that is actually profitable and has a very strong competitive advantage with its core platform and added apps, like Instagram and WhatsApp.
The stock is on a tear since bottoming out in 2012. It’s up over 400% in the last 4 years, and all signs point to continued growth. Yet, with a market capitalization of approximately $350 billion, it’s hard to imagine that a 100% gain is possible in the near future, despite the growth in user engagement, which is the main catalyst for their durability. No one is going to be able to build a better social network, but the industry is still fairly new in the mind of the consumer and Facebook has had to change its algorithm to be more user-driven. This has made advertising more of a necessity for businesses and brands to get content shown to its user base.
Recent Financial Highlights:
- Top line grew 50% year over year
- Monthly active users grew 15%
- Mobile users increased 21%
- Gross margins expanded to 84.6%
These are the numbers from last quarter. Can the company keep it moving forward? Not likely. Does it matter? At this price point, absolutely.
Even if Facebook doubles its profit, the future multiple will not be 75 times earnings. It’s already one of the largest companies in the world by market value, but it’s only producing $20 billion a year in sales and is valued at 17 times that number. Chances are Facebook will either trade sideways, despite its amazing profit margins, or trade down if the company produces any decrease in profit growth.
Currently, the company receives 82% of total revenue directly from mobile ads. But, let’s not forget about the countless other social platforms that are garnering a lot of attention right now.
Snapchat has 180 million users, 60% active every day. Music.ly has 60 million teens accessing it every day. Twitter (TWTR, Financial) still has about 300 million active users every month. And, if Google (GOOG) ever got its act together, G+ could be a real competitor with Facebook.
Here’s the Point.
FB will need to earn close to $20 billion in the next few years to justify its current market value. If it achieves this profit goal and receives the same high praise from investors as it is getting right now, the company would be worth over $1.4 trillion. This is highly unlikely. I just use it to illustrate a point many investors miss when looking at the company. Even a 50% rise in the value of FB stock would make Facebook as valuable as Apple (APPL).
Is a directory of 1.6 billion people as valuable as 700+ million iPhones? Personally, I don’t think so, but that’s not stopping investors from getting involved in FB ahead of the earnings, which come out tomorrow.
Now, by no means am I saying that Facebook isn’t valuable to the market from a social perspective. The user engagement alone proves that, but from an investor perspective, unless you’re moving billions around in your fund, FB shouldn’t even be on your radar.
Of course, I could be dead wrong. Facebook owns a very interesting company called Oculus, which has a strong foot in the door of virtual reality. VR is the future. You and I will be watching VR sports and movies in 10-20 years. Also, with the crazy amount of data FB knows about you, it provides very attractive advertising opportunities, allowing it to generate excess returns on capital over time - the same way Google has done. The company just launched a pilot program in which Eventbrite and Ticketmaster allows users to complete registration and book events on its platform.
The future for the user of FB is bright, but as an investor, I find it impossible to pony up even 26x future earnings for any company and with a future that is still being decided, FB is no different.
Disclosure: I have no position in any stocks mentioned in this article.
Start a free 7-day trial of Premium Membership to GuruFocus.
