Facebook Inc (FB): Never Underestimate It

Facebook Inc (NASDAQ:FB) dominates social networking with an overwhelming amount of market share. According to DreamGrow, Facebook Inc (NASDAQ:FB) leads market share of website visits with 82.54% of visits. YouTube is in second place with 21.33%, and Twitter follows that at 1.85% (the market share figure only includes the top 10 social networking sites).

Twitter has been having increasingly difficulty monetizing its online social media service. Its latest attempt is a music app, and according to CNBC:

The app will serve-up fresh artists and tracks to Twitter users based on some personal information, including who the user follows on the social platform, according to the report. The app will also use third-party services such as Apple Inc. (NASDAQ:AAPL)’s iTunes and the music service SoundCloud to enable users to listen to recommended tracks.

Facebook IncThe Twitter app will partner with Apple’s iTune store and in a way, it seems like it’s an attempt to take a stab at Facebook Inc (NASDAQ:FB) and Spotify’s combined success. According to Reuters, “Spotify counts five million people among paying subscribers, a 25 percent increase during the same time period.” Five million subscribers at $10/month equate into approximately $600 million in revenue per year. Spotify’s success as a media platform was primarily driven by Facebook Inc (NASDAQ:FB), and Facebook’s success with Spotify clearly proved that it’s possible to run with social-music media. So now both Twitter and Apple Inc. (NASDAQ:AAPL) seem to be adopting a similar product distribution strategy.

Apple Inc. (NASDAQ:AAPL) doesn’t need Twitter

Apple Inc. (NASDAQ:AAPL)’s success with iTunes isn’t dependent on the success of Twitter. Even if Apple Inc. (NASDAQ:AAPL)’s partnership with Twitter were a smashing success. iTunes generates $3.687 billion in revenues.  When compared to Apple’s total revenue of $54.512 billion, iTunes only represents 6% of Apple Inc. (NASDAQ:AAPL)’s revenue. This partnership with Twitter may add to Apple Inc. (NASDAQ:AAPL)’s bottom line, but not significantly enough to turn around Apple Inc. (NASDAQ:AAPL)’s stock price. Apple’s stock has declined by 42% from its all time highs set in September 2012. Better commercialization of iTunes through a partnership with Twitter isn’t enough of an up-side catalysts to cause sell-side analysts on Wall Street to scream “Buy Apple!”

That being the case, I find it highly unlikely that Twitter’s music platform will be anywhere near as successful as Facebook Inc (NASDAQ:FB)’s. In fact, I anticipate Facebook Inc (NASDAQ:FB) to sustain its success in digital media services and add-on services that have yet to be announced. Facebook Inc (NASDAQ:FB) seems better at identifying and executing upon opportunities that are compatible with the social network. Analysts on a consensus basis anticipate Facebook to grow earnings by 29.19% on average for the next 5-years.

While it is nice to know that the Facebook and Spotify duo are doing extremely well, after doing a thorough search of Facebook’s SEC filings I was unable to find any managerial accounting data that alludes to the revenue contribution that comes directly from Spotify. Also, Spotify is not a publicly traded company so it is impossible to estimate the exact contribution to Facebook’s profits. Plus, it doesn’t help that Mark Zuckerberg (captain of Facebook’s ship) likes to hide details of his past, along with the company’s finances (remember how Mark hid the accounting data of materially significant risks from the mobile segment from shareholders prior to IPO?).

Double down on Facebook

Facebook’s recent acquisition in Instagram was a success despite the controversy surrounding the content right disclaimer.

Facebook has seen phenomenal growth in the past 3-years, and in order to sustain that growth Facebook has been aggressively investing into research and development. Spending in research and development has nearly tripled over the previous year. No one in Silicon Valley really knows what Facebook’s next Manhattan project really is, but small successes through intelligent acquisitions like Instagram, along with practical product development strategies with Zynga Inc (NASDAQ:ZNGA) and Spotify have helped the company to maintain reasonable earnings growth.

It is difficult to determine whether or not Zynga Inc (NASDAQ:ZNGA)’s social gaming platform was a flash in the pan success. The stock has crashed from its all-time highs of $12.50 (the stock currently trades at $3.18). Zynga provided weak guidance for the first quarter of 2012. The company’s losses are driven by declining demand. Despite the declining user statistics, it is likely that Zynga will be able to rely on its loyal customer base, to keep the company from becoming insolvent. Eventually, Zynga will figure out a strategy to maximize profits. For now, though, Zynga consistently mails checks to Facebook.

Facebook monetization

Some may question whether or not Facebook can further monetize itself without charging its customers a monthly subscription, but I feel highly confident that Facebook will continue on its product development road-map with continued success. The company continues to expand internationally, and with more than 7 billion people in the world, Facebook’s current 1 billion user base may not be as big as everyone is trying to make it out to be.

Conclusion

The social network merits a higher valuation despite declining net income growth and soaring research and development costs. Facebook will sustain growth through unique products in development that work hand-in-hand with its social network, and examples of this includes Spotify. Facebook will sustain growth through successful buy-outs (Instagram) and will experience continued growth outside the United States. Facebook mobile ads can become better monetized–or better yet, Facebook could start charging users for the Facebook mobile app.

Facebook could easily surprise analyst estimates in future years through slight changes in its business model, successes from its acquisitions, or through product developments that investors are not aware of yet.

The article Never Underestimate Facebook originally appeared on Fool.com and is written by Alexander Cho.

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

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