Seeking Alpha
Research analyst, growth, value, IPOs
Profile| Send Message|
( followers)  

"Anything you can do, we can do better" would be the motto of the day for Facebook (NASDAQ:FB). After being turned down by Snapchat with a $3 billion buyout offer, Facebook has unveiled Instagram Direct, a direct rival to the latest mobile craze. Facebook shares, which hit all-time highs back in October, now seemed ready to set new records as analysts contemplate the revenue impact from this new service by the social networking giant.

On Thursday, Facebook announced its new private messaging photo sharing service called Instagram Direct. Here are some of the highlights from the announcement:

· Instagram has 150 million users

· Photos on Instagram Direct can only be shared with followers

· Photos sent to non-followers will be put in a pending requests folder

· Photos and videos can be shared with up to 15 people

· After a photo is sent, users will know when the photo has been viewed by the recipient

· Photos sent don't instantly disappear, unlike rival Snapchat

Snapchat has taken the mobile market by storm. Instagram Direct's announcement today will likely take users away from its photo sharing service. Others may try out both and see which they like better, or use both to communicate with different friends who are using each one. Of course, users of Snapchat can still send "naughty" pictures and have them disappear after 10 seconds or less. Snapchat also allows users to write on photos they send, which is not an initial feature of Instagram Direct.

Back on November 24th, SnapChat CEO Evan Spiegel chatted with All Things Digital. Spiegel once again wouldn't offer up the number of users that share photos on SnapChat. Total messages sent a day have hit the 400 million mark though. In that interview, Spiegel also hinted at monetization by saying they would create "value added services", which could include some sort of subscription based offering. The app's core audience remains the 13-25 age demographic, which will be valuable to advertisers.

The launch of Instagram Direct as a competitor to Snapchat shouldn't come as much of a surprise. The two companies aren't exactly best friends. Earlier this year, Snapchat poached away Emily White, Instagram's Director of Business. White now serves as the Chief Operating Officer of Snapchat and will help the company eventually integrate advertisements and post revenue.

Facebook also probably holds a slight grudge that it was unable to acquire Snapchat. Facebook tried to acquire Snapchat with reported offers of $1 billion and $3 billion. These offers came despite no revenue being produced by Snapchat. Facebook likely saw the same thing it did when it acquired Instagram, a huge active user base it can monetize down the road.

It appears Facebook may be happy a deal never came through. With Instagram Direct, Facebook can offer a similar service to its huge user base without having to shell out billions of dollars. Facebook may also have offered too steep of a price, as Snapchat's value already has come down. According to Fortune, Snapchat raised $50 million this week with a new valuation of $2 billion. This comes after the company was trying to secure funding with a $4 billion valuation.

Facebook will be hoping that it provides a better platform than Snapchat to get users to make the switch. Facebook could also see people switch to the Instagram photo messaging service, since they likely already have a Facebook and Instagram account. My guess is Snapchat doesn't completely go away, but they could see their high growth start to slow down and Facebook should see benefits in its revenue and bottom line with another area to display advertisements.

The new offering of Instagram Direct will also be Facebook's attempt to take on Twitter (NYSE:TWTR), who continues to explore photo sharing opportunities. The service will also take on WhatsApp and WeChat, two messaging services that have seen high usage. This slide show credits Facebook with 350 million photos shared a day and an additional 55 million shared on Instagram. Rivals WeChat and Snapchat each see 400 million photos shared.

Back in April of 2012, shortly before its initial price offering, Facebook announced it was acquiring Instagram for $1 billion in cash and stock. The deal was the biggest acquisition in Facebook's history and led many to question the valuation on the deal. Weeks before Facebook CEO Mark Zuckerberg pulled the trigger on the deal, Instagram had seen a funding round valuing the photo sharing service at only $500 million.

At the time of the acquisition, Instagram had 30 million users and had rolled out applications for iOS and Android that were free for users. Facebook said it planned on keeping the company independent so the company's users could share photos on other social networks. When Facebook closed the deal in September of 2012, the total purchase price shrank to $736 million, due to Facebook's deflated stock price. If Instagram Direct can boost further advertising revenue from the photo sharing service, Facebook will continue to look like it got a steal back in 2012.

In October, Facebook released its third quarter earnings. The growth was good from this social media giant and one of the reasons shares continue to stay in the $50s. Total daily and monthly users increased 25% and 18% respectively compared to last year's third quarter. More importantly, mobile monthly users increased 45% from the prior year, and total revenue was up 60% from the prior year. Advertising revenue was up 66% from the prior year. Mobile advertising, which was once an area of concern, made up 49% of advertising revenue in the quarter.

Here is a look at mobile user growth:

Mobile DAU

Mobile MAU

Q3 2013

507 million

874 million

Q2 2013

469 million

819 million

Q3 2012

329 million

604 million

Facebook also reported that they had 254 million mobile only users in the third quarter.

Here is a more detailed look at revenue in the third quarter:

Q3 2013

Q2 2013

Q3 2012

Advertising

$1,798 million

$1,599 million

$1,086 million

Payments and Other

$218 million

$214 million

$176 million

Total Revenue

$2,016 million

$1,813 million

$1,262 million

Other key metrics like average revenue per user ($1.72), net income ($621 million), and earnings per share ($0.25) were impressive. Average revenue per user continues to be dominant in the United States ($4.85), but perform not as well in other regions like Europe ($1.96), Asia ($0.81), and the Rest of the World ($0.67).

Shares of Facebook still trade with high price to sales and price to earnings multiples. Analysts on Yahoo Finance see the company's revenue growing 50% to $7.6 billion. With a market capitalization, that puts price to sales at 16.7 times. Analysts predict revenue will rise 36% in fiscal 2014 to $10.35 billion. That would shrink the price to sales ratio down to 12.2. Analysts see full year earnings per share hitting $0.83, which translates to a ratio above 62. Analysts see earnings per share hitting $1.12 in fiscal 2014, which would drop that figure down to 46.

Investors continue to shoot shares of Facebook up on the high hopes of advertising growth. As the third quarter showed, user bases continue to grow throughout the world. Advertising revenue continues to increase at high rates. Facebook has made good on their promise to increase mobile revenue. The new introduction of Instagram Direct should further monetize the service used by over 150 million users.

Shares of Facebook ended Thursday's trading session up 5% to $51.83. Over the last fifty two weeks, shares have traded between $22.67 and $54.83. Shares have been on quite the tear, gaining 76% in 2013 and hitting all-time highs in October. After an IPO that saw no jump in price and several computer glitches, shares have now rose 29% from their first day of trading. With a new source of revenue and improved advertising revenue and mobile usage, shares of Facebook are a long term buy. The stock continues to be risky with high metrics, but in my opinion is worth the risk.

Source: Facebook: Can Instagram Direct Crush Snapchat In Mobile Messaging Wars?