Facebook Upgrades Mask Real Issues

| About: Facebook (FB)

Back in mid-November, it appeared that Facebook (NASDAQ:FB) was headed to the teens for good as investors became very pessimistic regarding the stock. Along came the much-expected massive stock lock-up on November 14th and the market was surprised to see the stock soar instead of plunging to new lows. Within weeks, the stock soared from a low around $19 to $26.15. An incredible 35% surge for a stock left for dead.

A major reason for the leader in social media surging was three analysts increasing price target this week. What has made analysts so bullish on a stock that recently traded as low as $17 to only be upgraded once the stock hit $24?

The stock remains a favorite short candidate of us, but our firm has been on the sidelines waiting for a better entry point after the market became too bearish based on the lock-up issues and the mobile monetization fears. See our previous articles here. Note the comments section has been full of warnings that the lock-up might trigger a bottom.

Did everybody really believe Facebook wouldn't eventually figure out how to monetize mobile?

Stock Lockup

The Facebook lock-up on November 14th signaled the end of a series of lock-ups pushing 1.3B shares on the markets in the last few months. While a few more lock-up expirations will still occur, this weight on the stock should now be gone.

The stock surged over 12% that day signaling the downtrend has finally changed. Has this signaled any fundamental change in the company or the valuation?

Bernstein Research Upgrades To Buy

The upgrade by Bernstein analyst Carlos Kirjner was very notable considering the company had started so bearish on the stock after the IPO. The analyst sees the company beating revenue estimates over the next two years based on the success of monetizing mobile via sponsored ads.

The analyst sees revenue jumping to nearly $7B in 2013 and $8.7B in 2014. Both estimates are roughly 7-9% above street estimates. Based on these numbers, Kirjner increased the target price to $33 from $24.

BTIG Upgrades To Hold

Analyst Richard Greenfield forecasts fourth quarter revenue to boom based on more ads appearing in the mobile news feeds on its app. While the analyst appears as bullish on the ad revenue growth, he isn't as bullish on the valuation, only giving the stock a hold.

Sterne Agee Lifts Target

Analyst Arvind Bhatia lifted the price target on Facebook to $32 from $26. The analyst kept the buy rating on the stock based on the improved mobile plans and end of the lock-up expirations.

Traffic Growth

While the market and those analysts continue to focus on ad revenue, the real concern should be the lack of traffic growth. As highlighted in previous articles, the company can increase all the advertising that it wants, but the amount of usage on the platform will ultimately drive the stock.

Another highlight of how Facebook and other social media companies aren't able to monetize traffic into commerce was the virtual lack of success on Black Friday and Cyber Monday. According to AllThingsD, mobile stole the show while social media was a #noshow. An IBM report shows that sales coming from social networks actually declined over last year by a whopping 26%.

A different study from Adobe offered a more bullish social media impact based on visits and not sales. The increase was driven by traffic from Pinterest, which wasn't included in the IBM report.

Valuation Comparison

The stock remains considerably overpriced based on the revenue growth and the relative value to other internet giants such as Google Inc. (NASDAQ:GOOG) and Yahoo Inc. (NASDAQ:YHOO). While Google remains a huge success due to the internet search platform, Yahoo has hit numerous road bumps attempting to monetize its traffic. Like other networks that connect users such as AOL Inc. (NYSE:AOL) and MySpace, the platform eventually becomes stale and users move on to the next best network.

Based on the comparative valuations in the below table, investors clearly aren't factoring in the risk that Facebook loses user interest.

Company Market Cap P/S (NYSE:TTM) Forward P/E
Facebook $57B 12.1 40.2
Google 220B 4.8 14.5
Yahoo 22B 4.5 16.3

* all data provided by Yahoo! Finance.

Stock Price

The stock closed above $24 on Monday showing a clear break above the resistance at that level. Closing above $26 on Tuesday, the stock has filled the gap created in late July when the stock initially plunged from just below $27 to $24. On the short-term, the stock is overbought with both the RSI and CCI at extended levels. Typically though, stocks pushed higher after initially hitting these levels.

7-Month Chart - Facebook


Nothing has changed from the original conclusions that the stock is fundamentally overvalued. Based on the momentum, it could easily run to $32 over the next month before the excitement ends. The stock likely needs a catalyst to turn back bearish such as the company missing earnings estimates or traffic trending down.

The stock is clearly overvalued at over 40x forward earnings, but shorts need to remain on the sidelines until the momentum dies. The thesis regarding degrading traffic still holds yet major investors and analysts focus solely on the ability to monetize assets. The potential exists to push the user exodus even faster if ads degrade the user experience.

The company might have figured out the mobile conundrum and it might create an ad-exchange network, but it won't matter without the traffic holding up. Ironically the analysts failed to mention the lack of traction on Cyber Monday. After all delivering ads to a reduced user base won't really matter. Just ask MySpace or Yahoo how that worked out. Ironically, Yahoo offers a more compelling valuation now.

Disclosure: I have no positions in any stocks mentioned, but may initiate a short position in FB over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Please consult your financial advisor before making any investment decisions.