Happy Faces Are Back on This Stock

Richard is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

For all of the talk surrounding Facebook (NASDAQ: FB) and what are perceived to be poor fundamentals, the company has been a remarkable turnaround story – gaining close to 85% over the past three months. And there’s nothing standing in its way for further gains. A lot has happened suggesting that the company had turned the corner after shares reached a 52-week low of $17.55.

However, the most telling event over the past 6 months was that despite several lockup expiration periods, Facebook surged upward – even though 156 million shares were presumed to flood the market. This created new belief. And with the company due to report Q4 earnings on Wednesday, Facebook will look to continue its recent trend of turning investor frowns upside down.

Can Graph Search Find Profit Growth?

Facebook made headlines last week with the release of the company’s highly anticipated graph search. CEO Mark Zuckerberg described it as the beginning of a new phase in the history of the internet. The social media giant said this will change the way we search the world around us and organize all information on social, rather than algorithmic lines.

Clearly, this was a shot at Google (NASDAQ: GOOG), which owns virtually the entire search business. But Google doesn’t own Facebook’s 1 billion members, which equates to 15% of the world’s population. Then again, Facebook will have to figure out how to maximize the feature. As exciting as it sounds, it also requires that your friends on Facebook share everything.

With privacy already a huge concern, this is not certain to take off – at least not without some incentives or benefit to the user. For instance, the value in the feature is predicated solely on entries from those you know. So unless you’ve provided an update about this “hole in the wall pizzeria on the north side," it will remain unknown. For that matter, your friends won't even have a search point.

Moreover, Facebook has to prove that Graph Search can be a monetized with advertisers. Google’s recent report showed that this may not be easy. For instance, although Google’s revenue rose 36%, the search giant reported a 6% drop in average cost per click (CPC). This is what tracks how much money advertisers pay to both Google and Facebook for ads.

However, this was not a surprise for Google and has been an area of concern for analysts since this has been a trend in the company's previous four quarter. Plus, there were reports that Facebook was beginning to gain traction, especially with mobile devices. And in Facebook’s Q3 report, analysts realized the extent of the progress as Facebook posted $1.09 billion in advertising revenue.

Remarkably, 14% of that total (or $152.6 million) was generated from mobile devices – very impressive. This began to alleviate bearish concerns about Facebook’s inability to monetize mobile. Plus it proved that Facebook is successfully transitioning from a predominantly desktop-dependent platform to a mobile company.

Should PayPal and Google Be Afraid?

The question though, is how much can Graph Search contribute to Facebook’s advertising strategy? Likewise, Facebook’s mobile payment objectives are working well since payment revenue soared 13% in the third quarter to $176 million. This has raised questions about Facebook’s ability to one day exceed PayPal, which is owned by eBay (NASDAQ: EBAY). Could this really be possible?

While it seems far-fetched today, it may become a reality tomorrow. For instance, in eBay’s recent quarter, the company posted revenue of $3.99 billion, beating Street estimates of $3.98 billion as revenue surged 18% year-over-year. The better than expected results were helped by PayPal's continued surge, which generated a 24% increase in revenue to $1.5 billion.

I find it interesting that PayPal, which has been around for over a decade, can still grow at a rate of 24%. This means that the market is not even close to being saturated. Considering that Facebook has 1 billion users and its payment revenue (launched in June ‘12) was able to advance by a mere 13%, clearly there is still an opportunity for Facebook to grow.

Whether or not Facebook can ever take on PayPal is another question entirely though. But the company has the infrastructure and the user base in place to make a meaningful dent. Plus, it’s just the beginning considering that PC sales are projected to decline further by 10% to 15% by the second half of this year. By contrast, mobile devices are expected to continue their ascent.

That Research In Motion (NASDAQ: BBRY) is seeing a resurgence serves a perfect example. Not only did RIM just release a solid earnings report -- beating Street revenue estimates of $2.6 billion -- the company just announced that it will begin selling low-end smartphones. As far as RIM is concerned, it’s worked for Samsung against Apple (NASDAQ: AAPL), so why not try it? These means the more devices that enter the market, more opportunities for Facebook payments.

Besides, that Apple and Google are still battling for mobile supremacy means that Facebook is certain to succeed – particularly since the iPhone 5 and IOS6 seamlessly integrates Facebook. Plus, as Apple continues to reduce its Google reliance as by removing Google Maps and YouTube as standard apps on its phones, this further helps Facebook mobile ambitions.

Now, there is wide speculation that Google’s search browser will be next to go. Depending on how well Graph Search performs, it’s anyone’s guess as to what Apple may do next to further lend support for Facebook – so long as it means it will hurt Google. Regardless, Facebook’s could not have found a better friend than Apple.

Bottom Line

Facebook is now performing as well as can be expected. Although the company is certainly not out of the woods just yet, evidence suggests that at least it’s moving in the right direction. Impressively, Facebook now seems more mature in its execution and is allowing its performance to do the talking.

Despite the stock’s recent gains of late, I would be a buyer here ahead of Wednesday’s Q4 earnings report. Google’s performance proves that advertiser spending is on the rebound and Facebook’s continued progress in mobile will propel shares to $40 by the second half of the year.

Richard Saintvilus is long AAPL and has no position in the other stocks mentioned. The Motley Fool recommends Apple, eBay, Facebook, and Google. The Motley Fool owns shares of Apple, eBay, and Google. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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