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Facebook knocked the cover off the ball this past quarter, beating analyst estimates by a wide margin (non-GAAP EPS of $0.54 vs. consensus estimate of $0.48). Revenues also came in higher than expected and rose 49% compared to the prior year. Yet the stock fell after hours.
What gives?
To start, Facebook’s expenses came in much higher than expected, rising about 87%. Zuckerberg warned us last quarter that expenses would be rising, and he meant it. A fair bit of the expenses were due to Facebook’s expansion into video, but Facebook also dropped $900 million in stock-based compensation, mostly related to its purchase of Whatsapp.
So, what’s next for Facebook?
Let’s start with what the company is doing right. Facebook has done a really good job of monetizing its user base, especially its mobile user base. There were serious doubts a few quarters ago as to Facebook’s ability to profitably transition its users to mobile. Well, we can lay those fears to rest. Mobile makes up a larger proportion of Facebook’s revenues every quarter.
Facebook is also doing a fine job of keeping its users engaged. One metric here is the ratio of daily active users to monthly active users, which has held steady at about 64%.
Unfortunately, Facebook’s traditional site may be reaching the end of its fast-growth phase. Monthly active user growth dipped to 13% in the fourth quarter. That’s still phenomenally good, but looking forward it’s hard to see where new users will come from. Roughly half the world’s population with access to the internet is already a monthly active user, and the prime markets of North America and Europe are saturated. Yes, Facebook can add new users in the developing markets of Africa and South Asia. But these are not going to be the lucrative customers that advertisers are willing to pay up for.
For Facebook stock to continue attracting Wall Street’s attention, we need to see a viable plan for monetizing Instagram and Whatapp. Right now, Facebook’s stock is pricing in a rosy outcome on those fronts.
Facebook trades for 70 times earnings and 19 times sales, which is remarkable for a $200 billion company, roughly half the size of a Microsoft or ExxonMobil . This is not some start-up; it’s one of the top 15 largest companies in the world. Investors are implicitly expecting Facebook to come up with some major new revenue streams and quickly.
Can Zuckerberg deliver? We’ll see. He’s proven to be a worthy competitor, and I wouldn’t want to bet against him. But based on Facebook’s valuation, the market has already priced in results that even Zuckerberg will have a hard time delivering.
Charles Lewis Sizemore, CFA, is chief investment officer of the investment firm Sizemore Capital Management and the author of the Sizemore Insights blog. As of this writing, he had no position in any security mentioned.