Facebook: Executing Well To Fend Off The Attack Of The Clones - 'Initiating Coverage At Buy'
Summary
- We see higher video consumption driven by Stories, Reels, FB Watch and IGTV as the key driver of engagement, driving impression per user @4% CAGR over the next four years.
- Corroborated by the increase in advertiser demand, we expect eCPM to grow @7% CAGR from 2021E to 2025E, forming the biggest driver of revenue growth.
- Our forecasts suggest that Facebook will drive MAUs in the mid-single digits (~5%) as it continues to increase its exposure to emerging markets.
- Our detailed analysis on Apple's latest IDFA upgrade suggests that the risks to revenue remains manageable with the worst case hit of 5% to FB's top-line (Figure 20).
- Despite the recent run up in prices, we see Facebook's shares as attractively priced and use a combination of DCF and NTM PE valuation methodologies to arrive at a price target of $456, imputing an upside of 33% from its current share price.
Urupong/iStock via Getty Images
Since inception in 2004, Facebook (FB) has grown swiftly to become the world's largest social media platform company with 2.9bn monthly active users (MAUs), representing 46.6% penetration of all smartphone users in the world. Spearheaded by founder and the poster boy of new age tech entrepreneurs, Mark Zuckerberg, we see Facebook as the best-in-class social media platform, benefitting from robust industry positioning, double digit earnings growth profile and a strong balance sheet. We commend management for its stellar execution re increasing engagement and accompanying monetization, evidenced by the increase in share price of 788% since IPO in 2012.
Facebook stands out from the crowd in facilitating higher ROI for advertisers, afforded by its ability to offer advanced and granular targeting options, a double-edged sword given its concern re privacy and accompanying suit of regulation and litigations across the world.
We believe Facebook has done a stellar job of fend off the attack of more recent clones in Snapchat (SNAP) and TikTok as it copied their successful product formats quickly to drive engagement on its own platform. Examples include Vertical video formats, Lenses and Stories from Snapchat and Short-form video formats, which has become table stakes for almost any social media platform from TikTok.
We expect revenue to grow at 17% CAGR over the next four years to 2025, driven by a 5% increase in MAU's (ongoing penetration of emerging markets and smartphones) and 11% growth in ARPU. We see Facebook's focus on building a full commerce-suite natively on its platform, price increases, increasing ROI for advertisers and ongoing monetization of its Stories/News Feed products as some of the key drivers in growing ARPU. Despite ongoing significant investment in R&D to roll out its Virtual Reality Metaverse product, we see both, EBIT and EPS growing at 18% over the same time frame.
However, investing in Facebook does not come without its risks. The ongoing rollout and the full impact of Apple's new iOS software which limits social media companies such as Facebook to target Apple users remains unintelligible. We should get more color from management on this in its upcoming Q3 results. Our analysis suggests total impact from Apple's privacy upgrade on revenue to be between 0 to 5% which appears to be manageable. Ongoing regulatory concerns, most incriminating of which remains section 230 in the US also adds to investor trepidation which we hope to pen in more detail in a separate article.
We use an average of our DCF and NTM PE valuation methodology to arrive at a price target of $452, inferring an upside of 32% from its current share price of $343. We initiate coverage on Facebook with a "Buy" rating.
Figure 1: Anatomy of Growth - Breaking down FB's revenue drivers
Source: AlphaTech Equities
Monetization (ARPU) will be key driver of revenue for Facebook going forward
- Pricing will be a key lever of revenue growth for Facebook going forward which we pen in more detail below.
- In the short-term, Stories will continue to drive monetization but Reels and other video formats should provide further advertising inventory in the medium to long-term.
- New suit of offerings built to drive commerce on its platform will drive monetization in the medium to long-term.
- Facebook continues to make engineering improvements to its advertising Product to improve ROI, further increase its own ARPU.
We see pricing as key lever of ARPU growth going forward:
We believe historically, Facebook has consciously tried to price its advertising space competitively as eCPM (Rev per impression) decelerated in 2019 driven by higher sales mix in international markets and lower monetization of its Stories product. Following this in 2020 the increase in engagement given the pandemic, eCPM declined by a further 10%. However, in H1 2021, eCPM has already climbed by c. 47% as Facebook laps easier comps from 2020 and benefits from higher advertising demand given the pivot of businesses to sell online. We see eCPM to grow at 7% from 2021 to 2025E primarily driven by higher demand for digital advertising and Facebook's beginning to monetize its recent high-engagement successful video products.
| Figure 2: Growth in eCPM will be driven by higher advertising demand |
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| Source: AlphaTech Equities and Facebook Financials |
Monetization of Video Ads remains a priority for Facebook
Facebook continues to register impressive growth in Stories and Video ads, which it has invested in heavily over the past few years. Furthermore, in its recent quarterly earnings management also reported that it has seen strong growth across ads in Facebook Watch, which now has more than 1.25 billion users a month (43% of FB's total MAUs). As the number of people watching video scales, Facebook is building more tools for businesses and creators to use them to drive monetization. Management aims to broaden its paid online events across more geographies, allowing more people to run instream ads, including Live videos. Going forward it aims to develop ads in short-form videos, where it's enabling content creators to monetize their Facebook Stories with ads that look like stickers. Facebook has set aside a war chest of $1bn to incentivize online publishers to create content across Facebook's platform to drive further engagement.
Impression per MAU has been driven primarily by the growth in Stories and FB news feed
Stories, FB news fees and IG feed has been a key driver of growth in impression per MAU over the past few years. The three products have pushed Impressions per MAU up by 12.1% in 2018 and 23.5% in 2019. In 2020, in addition to the pandemic, tweaks made by Facebook's engineering team to its News feed resulted in impression per MAU to increase by 20%. In 2021 we expect impressions per MAU to decline by 1% as it laps tough comps from the pandemic in 2020.
| Figure 3: Impression per MAU will be driven by Stories and new video formats |
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| Source: AlphaTech Equities and Facebook Financials |
However, we expect impressions per MAU to increase in the low-to-mid single digits going forward, driven primarily by the ongoing popularity of its Stories product and new age video formats led by Reels, FB Watch and IGTV.
Facebook's MAUs expected to grow in the mid-single digits
Facebook's monthly active users (MAUs) has grown @10.7% CAGR between 2016 to Q2 2020 to reach 2.9bn MAUs. We expect Facebook's MAUs to decelerate and grow @4% CAGR over the next three years given the tougher comps coming out on the other side of the pandemic. This is corroborated by the secular growth in smartphone users which is expected to grow at 3.9% over the next five years to 2025. We Facebook's penetration of the global smartphone userbase increase from 46.2% currently to 49.3% in 2025.
| Figure 4: Global MAU's is expected to continue to grow in the mid-single digits | Figure 5: Facebook's penetration of global smartphones should reach ~50% |
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| Source: Facebook and AlphaTech Equities | Source: Statista. Facebook and AlphaTech Equities |
Videos have scaled significantly to become the core engagement and monetization frontier for Facebook
Battle of the eyeballs: The amount of time people spent watching videos online has grown @17% CAGR over the past four years to reach 7.91 hours per week according to research from Limelight networks (Figure 6).
As a result, it comes as no surprise that videos have come to dominate the Facebook engagement frontier as it has grown swiftly in popularity to account for almost half of time spent on Facebook in 2020.
| Figure 6: Avg. online video viewing time | Figure 7: YouTube leads the way in video consumption on social media |
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| Source: Limelight Networks | Source: Hubspot |
Facebook continues to launch new products to fend off the attack of the clones:
With the aim of keeping competition at bay, over the past few years, Facebook has a successfully launched a number of video formats including Facebook Watch (in Aug 2017 vs YouTube (GOOG)), Facebook Live (in 2015 vs YouTube), IGTV (in 2018 vs SNAP) and IG Reels (in 2020 vs TikTok).
Facebook Watch has scaled quickly since its inception in 2017 but remains a distant second in the online video space vs YouTube
Facebook Watch is a video-on-demand service which was launched in August 2017. Its content is typically produced by third-party partners who earn 55% of ad revenues generated by Facebook.
| Figure 8: FB Watch users have increased @114% CAGR since 2018 | Figure 9: FB watch accounted for 46% of total FB MAU's |
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| Source: Facebook Transcripts | Source: Facebook Transcripts |
In less than two years since its launch at the end of 2018, Facebook reported to have reached 140m DAU for FB Watch. Since then, DAU's have increased by a CAGR of 114% to reach 1.25bn (or 43% of FB's MAU) by June 2020. In its latest quarterly earnings call, the company reported that FB Watch was growing faster than other video formats and content in News Feeds. With the aim of increasing engagement of FB Watch, Facebook makes personal recommendation and connects users with their video interests.
IG Reels: When less is more
In its latest earnings call, Facebook reported that Instagram Reels, its short-form video format launched to keep TikTok's popularity in check has already become the biggest contributor of engagement growth on Instagram. Instagram Reels was launched in July 2020, after which average time spent on Instagram in India increased by 3.5%. In September 2021, Facebook announced that it has launched IG reels to all iOS and Android users in the US.
Facebook Live remains a unique platform
In a recent earnings call, management highlighted that Facebook Live accounts for a small proportion of its overall engagement, but represents some of the most unique content, allowing creators to build communities and engage with their followers. Facebook is aiming to build monetization tools such as live breaks, mid row ads and live shopping, enabling creators to increase, both, monetization and engagement for customers.
Stories Ephemeral format has proven to be a key driver of monetization and engagement
After the success of Snapchat's Stories, Facebook launched Instagram Stories in 2016 allowing users to upload a short series of photos, which are deleted after 24 hours. This drives the fear of missing out (FOMO) on friend's latest posts and videos driving engagement. Additionally, users were also allowed to decorate posts with text, drawings, stickers, and Snapchat-like animated filters.
Instagram stories had grown daily active users from 100m in 2016 to 500m in 2018 and we estimate that this has grown to 780m in 2020 representing 60% of total Instagram users (Figure 10).
| Figure 10: Instagram Stories MAUs | Figure 11: Total FB Stories MAUs are almost 3x the size of Snapchat |
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| Source: Facebook Transcripts and AlphaTech Equities | Source: Facebook and Snapchat Transcripts |
Social Commerce is an additional lever of growth for Facebook:
US Social commerce is expected to grow @36% CAGR between 2020 and 2023 according to latest figures published by eMarketer (Figure 12). The social commerce market @$36bn in the US currently remains relatively in its nascence versus China which is 10x larger at $363bn (Figure 13), highlighting the opportunity of growth for social media companies.
Please see our report on the growth of social commerce in our Shopify report.
| Figure 12: US Social commerce sales is expected to increase by 36% in 2021 | Figure 13: 2021 Social Commerce market size in China vs US |
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| Source: eMarketer | Source: eMarketer |
Disaggregating Facebook's social commerce playbook
Facebook aims to help businesses beyond just marketing and provide solutions across the entire e-commerce value chain. Management aims to build a personalized and a seamless customer journey, where users not only find it easier to discover products on its platform but also buy, pay and get it delivered to their doorstep. To this end, Facebook has launched a number of products which includes customer relationship management, business messaging tools and even hiring through Facebook Jobs.
The Facebook Business Suite is enabling businesses to message customers across its apps from a single interface and is expanding its Messenger API for Instagram as customers increasingly rely on messaging instead of phone calls.
| Figure 14: The Facebook ecosystem sees addition of Shops to its offering in 2020 |
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| Source: @frederic.cavazza and AlphaTech Equities |
On the commerce front, after seeing some early traction on recent launches, the platform is focused on building out Shops, Marketplace, Business messaging and WhatsApp Messenger to create more native commerce experiences across its apps.
Facebook's goal is to create high quality experiences for users interacting with businesses ultimately allowing these businesses to scale revenue on its platform. FB's approach is to work its way down the stack and build world-class services at every layer of commerce, starting from discovery (through its ads) at the top of the stack, all the way down to payments and delivery. The commerce experiences are now accessible across most of FB's services, and management reported to have a full roadmap of deeper integrations it will continue to roll out in the months ahead.
WhatsApp remains instrumental in forwarding Facebook's e-commerce vison:
With the aim of building more native commerce tools across all its platform, Facebook recently updated WhatsApp Catalog, so businesses can keep them updated from their computers to track inventory. It also launched Carts on WhatsApp last year which businesses have used to send more than 5m orders since.
FB Marketplace has long displaced Craigslist and eBay as the go to P2P shopping platform:
Facebook's Marketplace is a peer-to-peer shopping platform enabling users to post adverts and sell their own second-hand products to other Facebook users. Since its launch in 2016, the Marketplace grew quickly to 800 MAU in 2018 and more than 1bn by Q1 2021 (Figure 15). This accounts for 35% of total MAU's for Facebook. Facebook allows Marketplace users to advertise their products to other users in their zip code. This vs. eBay's @159m active buyers in Q2 2021 and Craigslist @55m last reported figure in 2019. Furthermore, other advertisers on Facebook can also target Facebook marketplace users to sell their own products, completely unrelated to the Marketplace products. In essence current advertisers can expand their advertising placements to include Marketplace in addition to News Feed, Video, Instagram, Messenger and other ad campaigns.
| Figure 15: FB's Marketplace has 1bn users and a diffusion rate of 36% | Figure 16: FB Shops has 300m users within a year of its launch | |
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| Source: Facebook Transcripts and AlphaTech Equities |
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Facebook Shops, a brainchild of the pandemic is gaining traction
On the back of the pandemic, Facebook launched Shops in May 2020 which has grown rapidly to 1.2 million Shops and more than 300 million users in a year. Facebooks Shops is an e-commerce hosting platform allowing business of all sizes to create its presence on the platform via a single online store which is accessible through Facebook and Instagram.
| Figure 17: FB remains the most popular platform to make online purchases |
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| Source: eMarketer | Source: Shopify |
Shops allows Facebook to increase monetization by increasing its share of the wallet:
By allowing business to setup shops and sell on its platform, Facebook not only earns advertising revenues from businesses but also enables them to charge additional fees for all goods and services sold on its platform. Facebook increases its share of the wallet by providing businesses increased services such as 1. Customer management software, 2. Payment services, 3. Hiring services and 4. Delivery services among others.
Facebook Messenger allows businesses to increase engagement with customers
Recently in its quarterly earnings call, Facebook reported that more than 3m advertisers used Click to Message ads to direct people to Messenger and more than 1m advertisers have used Click-to-WhatsApp since its genesis in late 2017. In its latest quarterly earnings call, Facebook reported that businesses that use WhatsApp Business API are sending more than 100m messages per day.
For a significant proportion of online shoppers, commerce is less about websites and shops and more about Messenger. Facebook reported that smaller businesses aim to use the chat functionality to show and sell products and larger businesses use the Messenger to communicate with customers.
Facebook Payments remains in its embryonic stage:
WhatsApp payments is now fully operational in Brazil and India and sees a significant number of people in these regions using the service to send money to friends. In the US, Facebook is adding new payments features in Messenger such as QR codes. Recently, Facebook Pay was also made available outside of its apps allowing users to use it at checkout options on the web and especially in web view that you see within our apps after clicking on ads or other business content. See our report on going long on PayPal (up 36% vs 26% for S&P index since publication in Oct 2020) and Square (up 46% vs 31% for S&P index since publication in Oct 2020) to see the significant potential of WhatsApp in the payments space in the US.
We see the impact from Apple's IDFA upgrade as manageable for Facebook
According to our analysis, in the worst-case scenario we see Apple's IDFA upgrade can have up to a 10% impact on Facebook's annual revenue in the US (Figure 19).
| Figure 19: We see IDFA changes to have a 0 to 10% impact to Facebook's US revenues |
| Source: AlphaTech Equities, Facebook, Statcounter and Appsflyers |
According to our analysis, Apple's IDFA upgrade can have up to a 3% impact on Facebook's annual revenue in Europe in the worst-case scenario (Figure 20).
| Figure 20: We see IDFA upgrade to have 0-3% impact to Facebook's European revenues |
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| Source: AlphaTech Equities, Facebook, Statcounter and Appsflyers |
According to latest data published on 22nd September 2021 by Appsflyers, the iOS 14.5 opt-in rates for social media companies is as high as 37%. In the last few weeks, In-App revenue has increased by 8% to surpass pre-IDFA enforcement days. According to the report, total consumer spending on Apple devices have increased by 23% since July.
However, in-app advertising revenue has not moved the needle in recent months and remains 14% below pre-IDFA enforcements days according to Appsflyers.
| Figure 21: iOS 14.5 opt-in rates and in app revenue trend for social media apps |
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| Source: Appsflyers |
To read more on our take on IDFA and its impact on Snapchat and Facebook please see our initiation coverage report on Snapchat here.
We see impressive growth for FBs financials:
Revenue driven by growth in all its primary levers, spearheaded by higher eCPM:
We expect revenue to grow by @17% CAGR between 2021-2025E driven by the ongoing penetration of MAU's in emerging markets (up 5% over 2021 to 2025E) and higher revenue per impression (up 4% 2021 to 2025E) corroborated by heightened demand from advertisers.
| Figure 22: Drivers of Revenue 2016 - 2020 | Figure 23: Drivers of Revenue 2021 - 2025 |
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| Source: Facebook Financials and AlphaTech Equities | Source: Facebook Financials and AlphaTech Equities |
Adj. EBITDA will be impacted by ongoing investment in rolling out the Metaverse.
We see EBITDA to grow by 18% from 2021 to 2025 driven by the growth in revenue and ongoing operating leverage despite higher investments in R&D as Facebook rolls out its metaverse and continues to improve privacy across its infrastructure.
Re the Metaverse, Facebook plans to invest billions of dollars and use its virtual-reality technology it has acquired from recent acquisition in Oculus and other companies to build a three-dimensional digital universe. This should help drive Facebook goals of allowing all users to be engrossed in its ecosystem, helping drive increased engagement and crafting a clear differentiator vs competition.
| Figure 24: EBITDA to grow @18% CAGR between 2021 and 2025 | Figure 25: EPS to grow @18% CAGR between 2021 and 2025 |
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| Source: FB and AlphaTech Equities | Source: FB and AlphaTech Equities |
EPS growth: We see EPS to grow by 18% from 2021 to 2025 primarily driven by the growth in EBITDA.
| Figure 26: Facebook Income Statement |
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| Source: AlphaTech Equities |
Despite the recent run up in prices, Facebook shares are attractively valued on a 12-month investment horizon.
Since the beginning of 2017, FB has traded between 16x to 34x NTM PE ratio. Post-Covid, given the secular shift to digital commerce, Facebook's NTM has traded between the upper end of this range of 23x to 34x. We see an NTM PE ratio of 22x as fair given the headwinds around Apple IDFA implementation and ongoing regulatory concerns. When applying this on our Facebook's 2023E EPS estimate of $19.67 we arrive at a fair value of $432, imputing an upside of 26% from its current share price of $343 (Figure 29).
| Figure 27: Facebook's NTM PE ratio trading at four-year average of 25x |
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| Source: Koyfin and AlphaTech Equities |
Our Facebook's DCF confers a 45.2% upside
Based on our DCF valuations for Facebook, we impute an upside of 45.2% from its current share price. This is despite us being extremely conservative on our FCFF growth assumption over the next four years @22% vs. 27% (adjusted for operating working capital) between 2016 and 2020.
We use a WACC of 9.1% which also happens to be its cost of equity (given negative net debt), which we arrive at by assuming a beta of 1.3 (Yahoo Finance), a risk free rate of 2.03% (US 30 year Treasury yield) and equity market premium of 5.5% (Statista).
| Figure 28: Our DCF confers an upside of 45.2% |
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| Source: AlphaTech Equities and Facebook Financials |
We use an average of our DCF and NTM PE valuation methodology to arrive at a price target of $452 inferring an upside of 32% from its current share price of $343. We initiate coverage on Facebook with a "Buy" rating.
| Figure 29: A mix of PE NTM and DCF valuations imputes an upside of 32% |
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| Source: AlphaTech Equities and Facebook Financials |
Conclusion: We initiate coverage on Facebook at "Buy" as shares are attractively priced on a 12-month investment horizon
We see increasing video consumption driven by Stories, Reels, FB Watch and IGTV as the key driver of engagement for Facebook driving Impression per MAU by 4% over the next four years. Furthermore, eCPM will be key driver of revenue growth (7% CAGR between 2021 and 2025E), corroborated primarily by increasing advertiser demand for its ad products. Finally, we expect Facebook to see MAUs increase in the mid-single digits as it continues to penetrate emerging markets.
All the above three drivers together are driving our revenue grow forecast @17% CAGR over the next four years to 2025E. We expect EBIT to climb @18% CAGR between during the same time frame, benefitting only modestly from operating leverage as Facebook continues to invest heavily in increasing privacy across its platforms and roll out its Next generation Virtual-Reality Metaverse.
Our analysis suggests Apple's latest IDFA upgrade in its iOS 14.5 version as manageable for Facebook with a 0 to 5% negative impact on revenue (Figure 20). Hence, we believe upcoming regulations and litigation cases pose the biggest risk for investors in FB which continues to remain unintelligible.
Despite the recent run up in prices, we see Facebook's shares as attractively priced and use a combination of DCF and NTM PE valuations methodologies to arrive at a price target of $456, imputing an upside of 33% from its current share price. We initiate coverage on Facebook at "Buy".
This article was written by
Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such 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.
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Comments (30)
I think Watch is underutilized and could easily go head to head with Youtube.
Just to clarify: Marketplace has c800M MAU, but is there any data such as AAC (annual active customers -> people who actually made a purchase)? Of these 800M monthly users, how many of them actually buy something? For example in China, Alibaba's marketplaces has c900M MAU and c800M AAC, the ratio is pretty great.Given the nature of FB (a social media), I wouldn't be surprised to see a huge gap between AAC and MAU of marketplace. Here in France, I actually don't know anyone using Facebook's marketplace : we either use the local classified leaders, or a marketplace like Amazon.
