Facebook Inc Stock A Solid Buy Post Earnings

  • Facebook reported the highest-ever quarterly revenue and net profit.
  • Ad revenue, mobile and MAU growth drove the impressive results in Q2.
  • VR, Facebook Live and messaging apps monetization will drive growth further.

Social networking giant Facebook (NSDQ:FB) reported phenomenal Q2 earnings numbers last week, beating market consensus for EPS and revenue easily, with 59% YoY increase in top line and almost 100% YoY increase in Non-GAAP EPS. Further, Facebook also delivered impressive YoY growth rates for Monthly Active Users (MAU), Daily Active Users (DAU), advertising, ARPU, operating margin and net income that triggered a 6% rally in the stock price. Facebook’s stock reached its all-time high of $131 immediately after the earnings were released, and later corrected to below $124 in two sharp fluctuations in just three days.

On many fronts, Q2 was a very successful quarter for Facebook, and generated more than $2B in quarterly net income for the first time, highlighting once again the company’s dominance in the online advertising market. Sell-side analysts released very bullish notes post earnings and hiked price targets: Goldman Sachs from $142 to $162, Deutsche Bank from $160 to $170, UBS from $150 to $155, JPMorgan from $161 to $170, etc. setting the average price target of $155, which reflects an additional upside of 25%.

The overall bullish sentiment toward Facebook is based on a mix of factors related to the market dominance of its ads. Facebook Live increased in popularity; there was growth in the number of Instagram and Messenger users, and it generated an all-time record net profit as shown in the chart below.

FB_chart 11_080116

In Q2, Facebook generated the highest quarterly amount ever from advertising, with $6.3B in advertising revenue, which is a 63% YoY growth, mainly driven by the significant growth in mobile devices, which accounted for a staggering 84% of Facebook’s Q2 ad revenue. Facebook’s second operating segment – payments and other fees – continues to shrink as it generates most of its revenues from desktop users and the number of users accessing Facebook on their desktop computers has been declining every quarter. The company anticipates that revenue from VR games will not only offset this decline but will lead to an increase in this segment as virtual reality becomes more popular.

During the conference call, CEO Zuckerberg talked about Facebook Live quite a lot and emphasized a few times that live video streaming is the company's main area of focus to drive growth. Zuckerberg compared it to mobile advertising, which the company started focusing on a few years ago in an effort to prove itself through a strong and significant shift that pushed Facebook’s business further. Mr. Zuckerberg calls the video focus a ‘video first’ approach that puts video initiatives at the top of the priority list for the company: “one of the big themes that we're talking about here is becoming video first, right, and as people look for richer and richer ways to express themselves just like people in the past just shared a lot of text and photos on Facebook, we think that in the future more of that is going to be video.”

CFO Wehner briefly discussed Messenger and WhatsApp monetization. While these apps do not generate a substantial amount of revenues for the company right now, they are expected to grow as Facebook expands its messaging apps in the B2C market. However, along with the great results and the growth targets the company put for itself, the company also provided a very conservative outlook that takes into account lower advertising revenue growth rates in the second half of 2016.

Moreover, the company is facing a potential tax liability of $3B to $5B following an IRS investigation related to Facebook’s global HQ transfer to Ireland in 2010. This investigation started in 2013 and revolved around the way Facebook and its tax adviser Ernst & Young LLP evaluated the properties transferred to the Irish holding company. The IRS requested additional documents from E&Y and Facebook to determine whether E&Y’s estimates were flawed and to determine how and why they were flawed, if at all. I estimate that this investigation will conclude in some agreement between the IRS and Facebook to pay some penalty and close the case. However, even a fine at the lower end of the range is a significant amount of impact for the company.

Going forward, I firmly believe in Facebook’s ability to keep growing. However, as a quarter of the world’s population is already using Facebook, MAU growth (and mobile MAU) will start to slow down. Judging by the incredible shift to mobile that Facebook made a few years ago, I take Mr. Zuckerberg's announcement of a ‘video first’ approach very seriously, and I believe that Facebook will strengthen its position in the live video market compared to Twitter’s Periscope, Snapchat, YouTube and other competitors.

I believe that Facebook learned from the failed launch of Oculus, and next generations will be started more smoothly. The Oculus eco-system and game sales are an important piece of Facebook’s strategy that would be fascinating to follow and see whether Facebook could succeed in this market against Sony Corp (NYSE:SNE), HTC, Microsoft (NSDQ:MSFT), and maybe even Alphabet Inc-C (NSDQ:GOOG). For the long run, I remain bullish on Facebook.

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Comments on this article and FB stock

user profile picture
harshal.patel.1
neutral
I question if FB is too dependent on English speaking users (majority of revenue is from US & Canada, and UK) and too dependent on app install ads from startups.....
1 reply
user profile picture
lior-ronen
bullish
Specific with Facebook geo split of revenue could mislead because revenues are not accepted in the same geo as they originate in. For example, most of the EMEA ads sales are paid to the Irelad office even though they originated in other countries (even outside the EU/Uk zones). Having said that I agree that Facebook should accelerate their emerging markets revenuers.
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