Facebook's Path To $1 Trillion
Summary
- Facebook Inc. is the world’s 5th largest stock by index weight, contributing almost 1% to the MSCI ACWI Index, 2% to the S&P 500, and over 4% of NASDAQ-100.
- Facebook doubling to $1 trillion or halving would have a material enough impact on index funds, but Facebook's future correlates to future US stock returns in other important ways.
- Facebook's main exposure is to today’s most valuable scarce resource: our daily attention allocation of our question is how well Facebook maintains, mines, and monetizes that resource.
- The coronavirus “stress test” should have minimal to positive impact on Facebook’s medium-term earnings, but should also highlight where Facebook needs to focus to get to $1 trillion.
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Facebook, Inc. (FB) is currently the fifth largest company by weight in many of the world's most tracked stock benchmark indexes. At a market cap of just over $500 billion, it makes up almost 1% of the iShares MSCI All-Countries World Index ETF (ACWI), almost 2% of the SPDR S&P 500 ETF (SPY), and over 4% of the Invesco Nasdaq-100 QQQ Trust (QQQ). This alone means FB's performance is as material to an investor in SPY as any single stock would be to an equally-weighted 50 stock portfolio. This means any investor in the S&P 500 is implied to either be taking an active view on FB's expected returns relative to the index, or making an active decision to abdicate the valuation of FB to the market's price setters. Either way, whether Facebook manages to double and become the fifth American company to reach a market value of $1 trillion, or whether it loses half or more of its revenue, earnings and market value over the next decade, that will have an impact on your index funds.
Facebook vs Google, Amazon, Microsoft, and Apple
Compared with the only four US-listed companies larger than it, each of which has already managed to break the $1 trillion market cap mark, Facebook has a focused reliance and exposure to one factor: the amount of our daily time and attention we devote to it. Attention, especially of the affluent, is arguably today's most valuable scarce asset, and Facebook's ability to maintain, mine, and monetize our attention is at least as critical to Facebook as oil is to any oil company. By contrast:
- Apple (AAPL) makes and sells the devices many users use to check Facebook, but Apple's revenues rely more on how many of us buy a new iPhone every three years than how much of our day we look at those iPhones.
- Microsoft (MSFT) relies more on enterprise subscriptions to its business software and cloud services, many of which will continue to accrue even if many of us don't log in to Office 365 for several days.
- Amazon (AMZN) similarly has recurring revenues from Amazon Prime subscriptions and its leading AWS cloud services, and I will need to pay my AWS bill whether or not I log in or get more or less users to my website from month to month, and
- Google/Alphabet (GOOG) (GOOGL), of the top four, might be the closest comparable to Facebook in that it relies less on its cloud business than Amazon or Microsoft, and more on the ability to sell ads. Unlike Facebook, I might argue, Google relies more on users that know what they're looking for (when they go to search for it), while Facebook relies more on the habits of users who will regularly log in and spend time on Facebook apps, often not necessarily searching for anything specific.
Across the Pacific, I would also consider China's Tencent (OTCPK:TCEHY) (owner of WeChat) to be a close comparison to Facebook as the one app users may spend most of their day on. I also make this comparison to highlight Tencent's success in financial services in my later points about Facebook's future growth opportunities.
My Angle on Facebook
I should perhaps explain my own viewpoint/biases on Facebook's apps:
- My main use of Facebook apps is WhatsApp and Messenger, the latter being my #1 preferred way to make calls to friends outside Mainland China. Here, Facebook has the opportunity to compete more aggressively with Microsoft's Skype, Zoom, and other online communications platforms.
- I am otherwise a very limited user of the main Facebook and Instagram apps, other than occasionally sharing photos of what I'm doing. I understand that there are several different demographics where users are far more active and revenue generating for Facebook than I am.
- Facebook has been branching out more into video services (competing more head to head with YouTube, TikTok, and more traditional TV networks), local information (competing with TripAdvisor (TRIP) and Craigslist), and online dating (apparently competing with Match.com), and I am not sure how successfully they'll be able to compete in any of these areas.
- One obvious $100-500 billion opportunity I thought Facebook would have made more progress on by now would be in financial services, as I outlined almost 5 years ago. Given the level of data Facebook has on its users, it could arguably handle the KYC burden for opening bank and brokerage accounts and underwrite insurance risks, especially in developing countries, more easily than traditional and less data-savvy institutions. Facebook CEO Mark Zuckerberg has also envisioned to "make it as easy to send money as it is to send a photo", perhaps most famously with the recent revision of Facebook's attempts to lead the new cryptocurrency Libra. The lower hanging fruit than trying to launch a new currency, in my opinion, would be to simply start applying some of their existing banking licenses to offer me a far better business checking account than what my current bank offers. I know if I had even a tiny fraction of Facebook's capital and marketing budget to play with, I would easily list a financial services firm I would target competing with.
The reason I would spend so much time trying to understand the 10-year outlook of those last two bullet points is that I believe Facebook is already close to saturation in terms of total number of monthly active users, at currently around 1/3 of the world's population. So, at first look, this implies to me that the critical question about Facebook's future is that it not only maintains this number of active users, but finds a way to double revenue per active user over the next 5-10 years.
Source: Facebook 2019 Form 10-K
As a global investor, the most obvious upside I see between the above chart and this next chart is that only one-fourth of Facebook's active users are in North America and Europe, but these two regions make up three-fourth of Facebook's 2019 annual revenue. This means there may be some room for revenue growth in Facebook simply expanding what it is already doing in Asia and other emerging markets, in parallel with adding additional services to increase revenue per user. I know if Facebook could offer me a business checking account, or serve me 1/10 as many videos as I currently get from YouTube or WeChat, that they would be on their way to doubling the revenue they make off me.
Facebook's Numbers
The headline goal of Facebook reaching a market value of $1 trillion within 5-10 years is largely based on Facebook's book value, revenue, and/or net income at least doubling, and its Price/Book, Price/Sales and/or Price/Earnings ratios not collapsing.
The next chart shows how FB's revenue and tangible book value have grown at a very high and steady rate since FB's 2012 IPO. Earnings seem to have faced a hiccup over the past year, but analysts are expecting earnings per share to rise to $9.23 for 2020 and $10.93 in 2021, which also indicates confidence in earnings doubling over the next 5-10 years.
Data by YCharts
In terms of valuation multiples, FB's multiples mean that it is still held by many "growth" funds, but only one "value" fund: the Fidelity Value Factor ETF (FVAL), which holds 2% in FB. That said, FB's multiples don't look too high when you consider how profitable and consistent its business is, especially if you expect even a modest amount of growth. FB's trailing P/E multiple of just under 29 is only a few points higher than that of the S&P 500 (currently 24.8), and noticeably lower than that of the Nasdaq 100 (30.2) or the Russell 1000 Growth Index (31.4).
P/E will be the more relevant valuation metric to watch going forward as the growth rate comes down to more "mature" levels, and Facebook faces questions on how much more it can reinvest in growth versus in buybacks or initiating a dividend.
Data by YCharts
Speaking of buybacks, it should be worth noting that the base case of FB growing to a $1 trillion company assumes a relatively low level of buyback activity, since buybacks plow profits into making larger slices of a smaller pie, rather than reinvesting into growing a larger pie. The one historic test we have so far of FB's feeling towards buybacks is the well-timed repurchase when it's P/E fell to around 20 a little over a year ago. Since then, FB seems to have focused on reinvesting its profits rather than plowing them into buybacks, though we might see a small pickup on this most recent dip as well.
Data by YCharts
Put together, the clearest path I see to Facebook having a $1 trillion market cap is for it to reach an annual net income of US$50 billion with a P/E of 20. For comparison, below is a chart of the annual earnings of the top four companies mentioned above, of which only Apple has earnings over that $50 billion mark.
Data by YCharts
Facebook's Bottom Line
As mentioned, I do not see much room for further growth in the number of active Facebook users, so the most likely way for FB to double revenue would be to double revenue per user, most likely some of the additional services it has been experimenting with.
As seen with the Cambridge Analytica scandal, the biggest threat to Facebook's near, medium, and long-term earnings is losing its users' trust. As much as I have said I would love a Facebook bank account, they are unlikely to compete with HSBC as long as customers still feel more comfortable giving their data to HSBC than to Facebook. Facebook's rise could be seen to have come at MySpace's and Friendster's expense, and has managed to stay relevant by capturing our attention on mobile devices and providing services to keep us there. How well Facebook can continue to do so profitably will determine whether it becomes one of the next $1 trillion companies. Meanwhile, I continue to see Facebook as a "market weight" stock and would look to buy only on a further price dip, or clearer picture of their expansion into more profitable services.
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This article was written by
Tariq Dennison, is a RIA focused on international clients and portfolios. He shares his on-the-ground experience as an expat investing in diverse foreign markets. Tariq is the author of the book "Invest Outside the Box" and soon-to-be-released "10 Ways To Invest." He lives in Switzerland, and has worked in Hong Kong, Singapore, Finland, the UK and Canada.
Tariq is the leader of the investing group The Expat Portfolio where he helps investors upgrade their global investing strategy. Features of the service include: Frequent, short, and focused analysis, access to his watchlist and dashboard, guides to specific foreign markets, and direct access to Tariq and his community in chat for discussion and questions. Learn more.Analyst’s Disclosure: I am/we are short SPY, QQQ. 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.
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Comments (32)
www.wsj.com/...
my family. I am following your site as I thought your analysis was very well done and I agree
on the financial side of Facebook for world wide cash movement enhancement which is needed.
Thank you moblackty
Facebook will eventually touch $250 before the year is out and hence is a buy on every dip.
