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Facebook's standout quarter

By now, everybody knows that Facebook Inc. (NASDAQ:FB) has reported stunning results for the second quarter. The EPS of $0.13 per share was comfortably ahead of the consensus analysts' estimates of $0.09 per share compared with the loss of $0.08 per share in the same quarter of the previous year and was up more than 44% over the preceding quarter. Revenues for the quarter grew by more than 54% year-over-year to $1.83 billion compared to the consensus analysts' estimates of $1.61 billion. This was also a growth of just under 25% compared to the preceding quarter.

The increase in revenues was primarily driven by ad sales, which rose 62.5% year-over-year. It was heartening to see that 41% of total ad revenues came from the mobile business as opposed to 30% in the preceding quarter. Revenues from payments and fees, though flat compared to the preceding quarter, grew 11.5% from the same quarter of the previous year to $214 million. Average revenue per user (ARPU) grew by 25% year-over-year to $1.60. The average price in developed countries continued to grow impressively, with the U.S. and Canada growing 40% from the same quarter of the previous year, primarily a result of higher engagement and newsfeed ads. During the quarter, Monthly Active Users (MAU) grew 21% year-over-year to $1.15 billion and mobile MAUs jumped 51% to reach 819 million.

Non-GAAP operating income grew by over 54% over the same quarter of the previous year to $794 million and, adjusting for stock expenses and payroll tax, operating income was $562 million. Operating margins stayed flat at 43.5%. The company generated $1.32 billion in cash flow from operations with a free cash flow of $1.05 billion and ended the quarter with $10.25 billion in cash and cash equivalents compared to $9.47 billion at the end of the preceding quarter.

The importance of "local"

One of the important implications of these results is that Facebook has seemingly learned how to make money from small local businesses. Within the mobile business, local was a significant factor and importantly, one of the first things that the company pointed out is the acquisition of 1 million active advertisers motivated by the significant volumes of local business with nearly 18 million having their own page on Facebook. The local business is bound to grow in importance as the company rolls out more services that are location specific. Facebook has recently made a number of changes to simplify advertising, which has made it much easier for medium and small businesses to buy advertising. In addition, certain services previously exclusive to large companies and advertisers were expanded to include even local shops. For instance, these businesses can now target customers that resemble their existing ones and gain access to third party databases on customer spending habits.

What lies ahead

Facebook had two important accomplishments in the second quarter that can pave the way to more success in the future. It was able to display more advertising without turning off users, and the rising figures show that active daily users as a percentage of monthly users showed a higher level of engagement. Secondly, it got advertisers to pay more, despite a decline in ad effectiveness especially for the news feed, which has become a major success.

The company is also in a much better position to generate new revenue streams to supplement its existing business. For instance, it does not even begin to tap into the advertising potential of its popular photo service Instagram, which can be more popular with advertisers than the newsfeed because it uses 15 second video clips. There is also the possibility that it could generate a lot of money by charging extra to users for an ad-free experience.

The bottom line

Facebook needed the impressive second-quarter performance to silence the skeptics and erase the disappointment of its stock performance following its IPO. The importance of the performance in the mobile market cannot be underestimated and should serve as a platform for strong future growth. The stock is currently expensive in terms of its earnings multiples, but I believe that the current price undervalues the stock in terms of what it could potentially deliver in returns to investors. It is not exactly the lowest risk investment, but is worth further investigation if you have the appetite for the risk.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within 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.

Source: Facebook Stock Is Definitely Worth Buying