Facebook Bulls Have Overstayed Their Welcome, Buy This Stock Instead

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

If you are looking to back Internet media companies, I recommend looking towards growth opportunities and discounting future streams of free cash flow to get a sense of whether there is a reasonable margin of safety. Some firms already have enough upside factored into the stock price that they don't have much potential left to "unlock value." By contrast, others are driving substantial return on invested capital and have been gaining market share. Below, I review 3 stocks with these variables in mind.

Yahoo! (NASDAQ: YHOO): The Good & Bad

While many credit the newly appointed CEO Marissa Mayer for restoring confidence in the struggling search business, not enough attention goes to Third Point. By positioning itself as an activist shareholder, this hedge fund was able to not only finally hold management accountable for its recklessness but also the board for its blind acceptance underperformance. Over the last 12 months, shareholder value has appreciated by 17.3%, but what exactly has changed fundamentally?

The bad news is that Yahoo was recently hit with a $2.7 billion judgment by a Mexican court that ruled the search business is guilty of breaching contract, promise, and the loss of business. Yahoo will, of course, appeal the decision, which remains very much up in the air at this point. An important battle for the company will come in the mobile front. comScore is now counting both PC and mobile users to rank traffic, and it finds that just barely a majority of Google's domestic visitors come from mobile devices and 12% only access it through mobile. Yahoo has a similar breakdown. This battle will be tough on both sides, since ad clicking on mobile devices is few and far between.

The company has been improving its average revenue per search and have cut costs through layoffs. This has freed up cash, and Yahoo still has 75% of its buyback plan to drive EPS accretion. Goldman Sachs recently upgraded Yahoo to a "Conviction Buy," and one analyst says that the stock could jump above $24 from improvements to ads and mobile investments. But I am skeptical. Yahoo has seen search share drop from 14.5% in December to 12.2% today, which is flat against September. Google, meanwhile, continues to gain market share. Return on invested capital of 8.3% is well below the 10.2% industry average and not enough to drive value creation.

Facebook (NASDAQ: FB) Bulls Have Overstayed Their Welcome, Should Buy Google (NASDAQ: GOOG)

I have already complemented Google in the past about how it is building a unified product by leveraging its leading position in mobile OS, video engines, search, and email, etc. Facebook isn't doing that. It remains boxed in an ephemeral website that appears to me as more of a fad than anything else. The company is actually gaining a tailwind from mobile users shifting over from texting to social networks, but Facebook has done a terrible job in monetizing ads on that platform. But, even, if it ends up unleashing a wave of growth on mobile, this has already been more than factored into the stock price.

Facebook's overvaluation has already been well documented, but this hasn't kept the stock from roaring past a fair valuation. The stock is now up 60% from its 52-week low and above the $26 price target Stifel Nicolaus put out in late October. I see little reason to be optimistic about the trajectory. Return on invested capital may be strong at 16.9%, but this is still below the 21% sector average. And, needless to say, 43.1x forward earnings is incredibly high for a company that has shown decelerating growth.

The market will still create its reasons to be bullish. Some are speculating that Facebook will make a move into designing its own games, but I don't think there is favorable risk/reward in backing what is essentially a startup venture at these multiples. This is suggested by the amendment provision that discloses "Facebook will no longer be prohibited from developing its own games". To me, it's an indication that the core business is fundamentally weak. Strategies, like pointing ads in news feeds, have been hailed by analysts, but, again, the underlying platform - the social network - has no guarantee of long-term viability. If consumers moved from AOL Instant Messenger to Gmail and texting to social networking, they could move over from social networking to the next big thing. Facebook built up its initial demand from a "velvet rope" strategy where, first, Ivy League students were allowed access, then university students, and finally pretty much everybody. Now that there are over 1 billion individuals on the platform, it's, well, no longer "cool". Users will find the next big thing.

Fortunately, at least one big search engine is taking this realization into consideration: Google. From driverless calls to virtual glasses, the company knows how to excite the market. Of course, results will speak for themselves, but if the company can at least deliver on one of its more innovative projects, future attempts will hold multiples steady during tough times for the core business. For this reason, I believe Google is relatively safe from significant downside and open to sky-high upside.

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TakeoverAnalyst has no positions in the stocks mentioned above. The Motley Fool owns shares of Facebook and Google and has the following options: long JAN 2014 $20.00 calls on Facebook. Motley Fool newsletter services recommend Facebook 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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