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Facebook Inc (FB) Has Enormous Upside

Facebook Inc (NASDAQ:FB) has made strong progress on the monetization front and completed its transition towards evolving into a mobile-based company in 2012. The stock hasn’t been well received after year-end earnings and took a decent hit. Investors and analysts raised concerns about Facebook Inc (NASDAQ:FB)’s near term operating expenditures owing to heavy investments in its business. However, Facebook’s moat is ever increasing and has enormous upside in the long run.
Runaway Leader in Social Media

The usage of Social Networking sites is heavily dominated by Facebook Inc (NASDAQ:FB) in the US. In fact, Facebook accounts for 5 out of every 6 minutes spent online on these social media platforms, according to comScore. Facebook’s user growth is very strong and ended 2012 with more than 1.06 Billion users globally.

Facebook Inc (NASDAQ:FB)However, based on Facebook’s global success and monetization improvements, other social media platforms are getting solid traction as well. Newer and much smaller social media companies likeLinkedIn,Yelp,Zynga (NASDAQ:ZNGA)are all getting more users for their respective services. Many of these companies haven’t been very successful and are still money losing concerns, but are expected to do better in the future.

However, Facebook Inc (NASDAQ:FB) is light years ahead of most of these companies, and its photo-sharing platform, Instagram has built out a massive social platform in itself. Instagram recently crossed the 100 million user mark and its visitor growth is on the rise. Facebook hasn’t started monetizing the large Instagram audience, and is expected to do so in the near-to-medium term, which should generate millions of incremental advertising dollars.

Strong Growth across the Board; Impact of IPO on Margins

Facebook’s top line revenues grew at a healthy 37% on a year-over-year basis and stands at $5.09B. Not only did revenues grow, the number of users tuning in daily and on Mobile are on the rise. The number of daily users now stands at 618 million and the number of mobile users MAUs tuning in every month stands at 680 million. These secular changes in user patterns, further reinforces Facebook as a mobile company.

In Q4 2012, the number of ads portrayed on Facebook Inc (NASDAQ:FB) grew 46% on a year-over-year, but the price per ad was down 4% due to faster growth coming from emerging markets like Asia and Latin America.

Owing to substantial amounts of pre-IPO stock awards to employees, Facebook’s operating margin took a big hit in 2012, and which is responsible for the company’s sky-high P/E on a trailing twelve month basis of more than 1800.The operating margin for Facebook for 2012 stood at 11%, which is down substantially from the 47% operating margin of 2011.

A better way to look at Facebook’s operating margin (only for 2012) would be look at the Non-GAAP operating margin of 44%. Based on Facebook’s long-run business viability and value proposition for advertisers, it is reasonable to believe that the company’s Operating Margins will revert back to pre-IPO levels of mid-40s in the future.

Mobile Monetization Getting Solid Traction

In terms of mobile apps, Facebook Inc (NASDAQ:FB) represented 23% of all time spent on mobile apps, and Instagram represented 3% in Jan 2013, according to comScore. Mobile Ad revenue made up 23% of total advertising dollars in Q4 2012, which stood at $306 million, which represents amobile run rate of more than $1.22 Billion.

This was a remarkable achievement for Facebook as the company kicked off 2012 without any mobile ads. Going forward Facebook’s mobile run rate of more than $1.22B should notch up much higher. Facebook’s mobile monetization only lags its business rival,Google Inc (NASDAQ:GOOG).

Payments Revenue Facing Challenges

Facebook’s payments business was essentially flat year-over-year.  Payments and the Gaming ecosystem continue to show healthy signs of diversification with newer games that are harnessing engagement.

However, Facebook’s altered agreement with lead platform developer, Zynga has impacted the revenues from this stream. Zynga was a major contributor towards Facebook’s revenues in prior years, but for 2012 revenues from Zynga declined to 9% of total revenues, down from 12% in 2011. This trend will likely continue, but Facebook Inc (NASDAQ:FB) is making stellar progress in other revenue generation efforts.

Graph Search and Gifts Are For the Long Haul

Facebook’s Graph Search tool that enables users to find people, places, photos and other content that has been shared on Facebook has great long term potential. And it is not going to become a major revenue driver in the near-term. Facebook is rolling it out to collect more data, and then use that data from the users to improve the rankings and do a much broader full-fledged roll out.

Facebook Inc (NASDAQ:FB)’s partnership withMicrosoft Corporation (NASDAQ:MSFT) in powering a search functionality in the social media platform should gain momentum in the long-run. However, in the near-term Google reigns supreme in the U.S. search market, while Microsoft’s Bing is now in second position. Also, Facebook Gifts has immense potential for the long haul, but in the short-term it isn’t going to drive the top line substantially.

Going Forward

Facebook’s strategy consists of building out a better mobile platform and newer products. As a result, Facebook Inc (NASDAQ:FB) is making heavy capital expenditures. To ramp up its advertising solutions, Facebook acquired Atlas from Microsoft. Atlas should aid in giving more transparency to marketers in general, which is often a headache for some advertisers. As a result, Facebook should attract more small and large advertisers, which will grow its top line revenues substantially.

The article Facebook Has Enormous Upside originally appeared on and is written by Isfhaque Faruk.

Copyright © 1995 – 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.

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