Digital advertising is experiencing substantial growth as companies continue to make the shift from traditional forms of advertising. Investing in tech companies that profit from digital advertising may be a smarter move than those that create products such as smartphones and computers.
Apple and Samsung’s difficulty meeting sales forecasts could mean that we have reached market saturation for the once explosive smartphone market. Much like the PC market over a decade ago, enough people own high-quality smartphones that there is no longer the same growth potential. Digital advertising is immune to this because demand is driven by businesses looking to grow rather than consumer habits. Investing in digital advertising really boils down to two companies: Google Inc (NASDAQ:GOOG) or Facebook Inc (NASDAQ:FB).
Facebook Inc (NASDAQ:FB) is a fifth of Google Inc (NASDAQ:GOOG)’s market cap and is expected to have much higher growth rates in the near future. This growth potential is baked into Facebook Inc (NASDAQ:FB)’s price as it has significantly higher valuation metrics than Google Inc (NASDAQ:GOOG). I look at a company’s Price to Earnings Growth (PEG) ratio as well as its Price/Earnings (P/E) ratio when analyzing valuation. This provides a clearer picture on how much investors value a company’s expected growth as well as how much they value that company’s earnings. I use numbers from the Nasdaq website based off of estimates provided by Zacks Investment Research.
As you can see Facebook Inc (NASDAQ:FB) has significantly higher ratios for both its forward P/E, what its earnings multiple will be based on the next year’s earnings, and its PEG. This means that investors not only price Facebook’s earnings at a premium; they also price Facebook’s expected earnings growth at a higher ratio. Both have similar cash levels relative to market cap. Facebook has $9.5 billion compared to a market cap of $61 billion, while Google has $50 billion compared to a market cap of $300 billion.
I believe Google Inc (NASDAQ:GOOG) is the smarter investment, especially at these valuation levels. It is impossible to definitively say which business model will be more successful, but it is easy to show that Google Inc (NASDAQ:GOOG) faces less risks and is in a better position to dominate digital advertising.
Risks and Advantages
The biggest risk Facebook Inc (NASDAQ:FB) faces comes from Google+.
Google+ has signed on hundreds of millions of users since release, and if user engagement starts improving it could signal disaster for Facebook. This is possible because for anybody plugged into the Google Matrix, the next step to using Google Inc (NASDAQ:GOOG)’s plethora of free products is to use Google+.
Beyond that, the evolution of social networks has always shifted to the social network that is more focused on connecting people. The move from Xanga to Myspace occurred because Myspace focused more on communicating with friends rather than personal ramblings. The subsequent move from Myspace to Facebook occurred because it was focused on keeping in touch and talking to people, rather than creating a personal page about yourself. It is not inconceivable to see a similar change from Facebook to Google+. The key point, however, is Google+ doesn’t have to replace Facebook to continue being successful, but if it does Facebook Inc (NASDAQ:FB) will become much smaller than it is today.