Facebook: The Best is Behind
Ashish is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
As a social platform, Facebook (NASDAQ: FB) remains at the top with a growing number of users and time spent per user. Facebook has generated considerable revenue growth y/y until now and, with estimated revenues of 4.89 billion in 2012, it is looking to increase its market standing. But the trend of increasing mobile usage might have an undesirable effect on Facebook’s advertising, its basic revenue driver. Also, with increasing competition in the advertising space, the company could lose a large chunk of revenue to its competitors in the long term. In this article we will be discussing some of the key concerns with Facebook’s fundamentals.
Major Problems/Risks for Facebook
Slowdown in revenue growth: Despite its growing revenues and increasing user base, we can see a declining trend in revenue growth. Facebook’s 2011 revenue growth was 88% y/y, however it grew only 45% for 1Q12. For the full year 2012, sell-side consensus is modelling just 31.8% revenue growth. This is a big concern for investors, as this decelerating growth implies the best days for Facebook are now behind.
Shift to mobile usage: Increasing mobile phone usage is another big concern for Facebook, as mobile advertisements are less effective due to small screen sizes. With mobiles increasingly being used to access Facebook and internet based content, Facebook needs to have much better mobile monetization models and ad units that appeal to both users and advertisers. In June, the company launched its “sponsored stories” ad units for mobile to wrestle this issue, but its effect on the market remains to be seen. I am largely skeptical due to the fact that the small screen sizes are likely to provide lower click rates compared to desktop.
Risk of Zynga developing its own platform: Zynga (NASDAQ: ZNGA) was responsible for nearly 50% of revenues for Facebook in 2011. With the advent of mobile and its non-reliance on advertisements, Zynga may work towards reducing its dependence on Facebook's platform. It is planning to launch its own platform in the future, diminishing a revenue opportunity for Facebook.
Competition from Google and AOL in the advertising space: Facebook gets around 80% of its revenues from its advertising business. With Google (NASDAQ: GOOG) faring particularly well with its Google display network (GDN) and AOL (NYSE: AOL) unleashing its new Project Devil, Facebook is falling behind the competition in the advertising space. GDN comes off particularly strong compared to Facebook when we compare advertising reach, ad performance, targeting options and ad formats; General Motor’s recent removal of advertising from Facebook is an example of this. Apart from that, AOL could be a major competitor with its Project Devil, a way to have interactive ad content on websites and mobile.
To conclude, although increasing mobile usage presents an opportunity for Facebook (as its exposure is likely to increase with it), the narrower reach of mobile ads makes it a big concern for the company. In addition, slowing revenue growth, Zynga’s plan to launch its own gaming platform and increasing competition make me bearish on the stock. I find it difficult to justify the company’s current valuation and hence would recommend avoiding it.
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