What If Reed Hastings Is Right About Facebook?

It's easy to kick a fallen icon when he's down.

Netflix (Nasdaq: NFLX  ) CEO Reed Hastings revealed in an SEC filing last week that he had invested $1 million in Facebook (Nasdaq: FB  ) . Acquiring nearly 48,000 shares at an average weighted price of $21 may seem opportunistic. This is the same company that went public at $38 just three months ago.

However, the more common reaction has been to ridicule his purchase.

"Hastings is a brilliant business leader but not such a genius when it comes to investing," writes my friend and fellow Fool Anders Bylund, ridiculing company share buybacks last year at much higher price points than where the battered video service stock rests today.

"Bear in mind, this guy also thought Qwikster was a great name," read our official Twitter feed two days ago. Poor Hastings. One cruel summer, and the former dot-com darling is a Wall Street punching bag.

I don't always agree with the guy, but I think he's right with last week's purchase. I'm not ashamed to say that, and I'll show you why.

Hastings knows Facebook
Only a handful of non-Facebook executives have the kind of access to the world's leading social-networking site that Hastings does. He sits on the Facebook board of directors, having joined last summer, just weeks before his own company's stock peaked ahead of its unfortunate missteps.

He knows the power of Facebook. It's been a big part of the viral nature of Netflix's streaming expansion success outside the United States, as international users can share their Netflix viewing choices with their Facebook friends.

Last September, Netflix began backing House bill H.R. 2471, accusing the Video Privacy Protection Act of keeping its domestic subscribers from sharing the same viral love of streaming celluloid on Facebook.

In short, he knows that good things happen when you scale to the size of Facebook. Why wouldn't he make a significant investment in the company?

Hastings knows consumers
Eyeing a Netflix stock chart over the past 13 months is scary stuff. Investors may have lost faith in both Hastings and Netflix, but consumers surely haven't. Netflix now claims 30.1 million subscribers, millions more than the company had a year earlier, when its stock peaked above $300.

Is Netflix as profitable as it used to be? No. Overseas expansion doesn't come cheap. Are the fundamentals the same? No. High-margin disc-based fans are inevitably moving on. Average revenue per user is on a gradual slide to $7.99 a month as Netflix becomes a service that is primarily consumed digitally.

However, apart from the poorly communicated rate tweak and the short-lived Qwikster disaster, Hastings has proved over time that he understands the way Internet users approach the medium.

Hastings knows the bears
A popular knock on last week's filing is that Hastings is buying ahead of the lockup expirations. Many employees and early investors will soon be able to start selling their shares, and that can be a brutal event, as Angie's List (Nasdaq: ANGI  ) investors discovered yesterday. The premium referral website was clobbered as its lockup expirations expired.

Shares of Facebook and restaurant-reviews hub Yelp (NYSE: YELP  ) also slipped on Tuesday, weakened merely on the notion of the pending expirations awaiting the once buzzworthy debutantes.

Some longtime Facebook investors can begin selling as soon as Thursday, though substantial expirations also come in November and next May.

The problem with playing lockup expirations is that nervous investors also do some selling ahead of the news. Some stocks coast along just fine past their lockup periods. Some potential sellers may also be too proud, loyal, or perhaps even optimistic to unload their positions at current prices.

Hastings knows the future
Tomorrow doesn't have to be a scary place to be if you're Facebook. Even jaded analysts see revenue growth continuing and profit margins expanding. If we go all the way out to 2015, Wall Street's profit target for Facebook is a hearty $0.85 a share, a robust 42% increase over the $0.60 analysts see in 2014.

Investors can get burned by looking too far ahead, but they can also miss golden buying opportunities by overestimating the gravity of today.

Hastings isn't a day trader. He still holds the stake he purchased in Microsoft (Nasdaq: MSFT  ) shortly after being tapped for the software giant's board a couple of years ago. That investment has gone on to appreciate mildly. Obviously, his position in Facebook will be far more volatile than his stake in Mr. Softy, but let's all agree to revisit Facebook's stock price next summer and then the summer after that.

Hastings isn't a punch line. If anything, he may be gearing up to have the last laugh.

A world of opportunity
Burned by the Facebook IPO? Find out about the recent tech IPO that you should be buying. It's a free read, so what are you waiting for? Check it out now.

There's also a new premium report on Netflix detailing the opportunities and challenges in store for its shareholders. The report includes a full year of updates, so time's ticking. Check it out now, too.

The Motley Fool owns shares of Microsoft, Facebook, and Netflix. Motley Fool newsletter services have recommended buying shares of Netflix, Facebook, and Microsoft and creating a synthetic covered call position in Microsoft. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

Longtime Fool contributor Rick Munarriz calls them as he sees them. He owns shares of Netflix and is also part of the Rule Breakers newsletter research team, seeking out tomorrow's ultimate growth stocks a day early. The Motley Fool has a disclosure policy.


Read/Post Comments (17) | Recommend This Article (7)

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  • Report this Comment On August 15, 2012, at 9:53 PM, EquityBull wrote:

    Hastings is not one to follow. He's already being disrupted. Great model with DVD's. Infrastructure was a nice moat. That moat is now gone with apple, google and amazon playing on their own turf. Kudos for trying to hang with them given that he really has no other choice but to try.

    As DVD's continue to die out so will netflix. They have been unable to create a valuable catalog of content.

    I won't be putting my money behind Hastings. Good luck to those who do whether it be with FB or Netflix. Facebook is about to see revenue slide as more users spend their FB time on mobile. I also believe people will spend fewer minutes each month on facebook as time goes by. Monetization will be difficult.

    I remember one time where theglobe.com and yahoo ruled the world. Altavista was the top search engine and then Excite was. Facebook will be around for awhile but at today's prices it just isn't a bargain yet. I could buy the best pizzeria in NYC and if I do it for 50 million dollars it isn't such a great deal despite being the best pizza place in one of the most populated cities in the US.

    I bought the FB on IPO for a pop. Didn't happen. Waited to see if earnings and financials were promising. They were anything but that. Sold at a loss which will offset some gains booked. Was nothing more than a trade for me. As an investment it doesn't look good yet. I see them trying to hit 50 cents this year and maybe 60 cents next year if they are lucky. This puts them more than 30 times next years earnings for 20% growth. Apple is growing faster and trades at 10 times earnings ex-cash. Google also trades at half the multiple of FB and is growing faster.

  • Report this Comment On August 16, 2012, at 10:00 AM, TMFBent wrote:

    The most important factor of all: $1 million is pocket change to Hastings. He's worth $280 million, after all. Given the diminshing marginal utility of all that moolah, it's like a normal person risking a few bucks.

  • Report this Comment On August 16, 2012, at 10:19 AM, chopchop0 wrote:

    @TMFBent. Correct. Not like I would trust him anyways (for the multitude of reasons already discussed ad nauseum), but this just seals the deal. Stay away from FB.

    In other news, it's hitting a new all time low today.

  • Report this Comment On August 16, 2012, at 12:46 PM, ShyCapIdeaFile wrote:

    "They have been unable to create a valuable catalog of content."

    Laughable and utterly absurd. 10s of 1000s of movies and TV shows. Walking Dead, MadMen, Arrested Development, South Park, currently working my way through Twin Peaks. Still tons of classic films worth seeing. Sure it does not have lots of stuff, and you don't get dreck like Sherlock Holmes II the day it comes out. But for $7.99 the service remains a great value, especially with the fact that it works on iPhone, iPad, is embeded in Tivo, XBox, etc. Threat of competition way overblown.

    Regarding FB, the fact that Reed bought could be pure politics to curry favor for Netflix with the big boy. Bent 100% right.

  • Report this Comment On August 16, 2012, at 1:31 PM, hightimes1 wrote:

    It's not Hastings that matters, here. It's the nature of the company. Hastings will ultimately make money on his investment if he holds it, even buying in at $21 a share, because the company will ultimately come up with ways to generate much greater revenues. The question is whether he should have waited until the billion plus "locked up" shares are subject to being traded before he bought into the stock. And the answer to that question will depend on when Facebook inevitably comes up with its revenue makers, and how innovative and successful they are. Considering today's pace of technological innovation, it may well turn out that he made the right move by getting in now.

  • Report this Comment On August 16, 2012, at 5:58 PM, Darwood11 wrote:

    @TMFBrent. I agree 100%. When I read reports of someone making an investment in a company, I now do a quick "net worth" search to determine the significance.

    In Hasting's case, he's invested about 1/2 percent of his net worth in Facebook. For many people in the US, that's perhaps the value of their automobile, in relative terms.

    So I see Hasting's investment as a meaningless event, and one which has been given far too much coverage in the media.

    I wonder, have we lost sight of what's important? Can we lack critical thinking skills?

    To put this into a personal perspective, I compared Hasting's facebook holdings to my investment in GLD, which I considered a "bauble" because I am most certainly not a "gold bug, and I purchased some a few years ago for the simple possibility of tracking this in my investment portfolio. Besides, I figured that with fear running amok in the streets, it was unlikely I'd lose money on this "investment" in the short term.

    Guess what? Hastings holdings in facebook are about the same as my percentage investment in GLD, which I consider more an amusement than anything else.

  • Report this Comment On August 16, 2012, at 6:18 PM, CoastalTrader wrote:

    What IF he's right? Then we can hop on when FB is a proven commodity. Until then......I wouldn't buy it with YOUR money. Good luck.

  • Report this Comment On August 16, 2012, at 7:27 PM, Zankudo wrote:

    Facebook=Groupon

  • Report this Comment On August 16, 2012, at 7:40 PM, kahunacfa wrote:

    "Hastings knows the future

    Tomorrow doesn't have to be a scary place to be if you're Facebook. Even jaded analysts see revenue growth continuing and profit margins expanding. If we go all the way out to 2015, Wall Street's profit target for Facebook is a hearty $0.85 a share, a robust 42% increase over the $0.60 analysts see in 2014." - TMFBent

    No one really knows the Future. Put a very generous 15X P/E ratio on the Broken Stock that is now Facebook, apply that multiple to 2014 earnings estimate of $0.60 per share to produce a 2014 Valuation in the $9 per share range for Facebook(FB). On that basis, I might actually buy the shares at $6 per share or so.

    I did recently buy the shares in the mid-twenty dollar per share range to cover my short position at $38. I probably covered way, way too early. Maybe should have waited for the lock-up period to expire to cover.

    Disclosure: NOT a fan of Facebook, Zuckerberg, or "Social Media" in general. Do NOT have a Facebook account, probably NEVER will have one either.

    Kahuna, CFA

    Investment Professional

    1974 - Present

  • Report this Comment On August 16, 2012, at 10:26 PM, gcp3rd wrote:

    I am just seeing WAY too many stocks priced well that are WAY less risky. While I like following the FB stories and drama until I have several million $ in the safe, dividend paying stuff it's hard to even worry about putting money into something like FB...then again it is fun to play the lottery sometimes. Hope my (very small holding of) Mako follows ISRG one day! :-D

  • Report this Comment On August 16, 2012, at 10:27 PM, gcp3rd wrote:

    By the way check insider transactions for FB if you haven't and see where the real money was made. Just think - all those shares sold on game day for $38 were bought by somebody who still owns them at a 50% discount!

  • Report this Comment On August 16, 2012, at 10:34 PM, RBMunkin wrote:

    If Hastings is so smart, how did he royally screw up Netflix so bad? How many customers did he lose with his dumb ideas? 6 figures at least I think, eh?

  • Report this Comment On August 17, 2012, at 8:37 AM, JimmyZangwow wrote:

    "Hi, I'm (person with recognizable public profile), and I think (object for sale) is a great buy." It's a confidence play. I had no confidence in FB the first time I heard it would be offered, and I still don't.

  • Report this Comment On August 17, 2012, at 9:40 AM, danburges wrote:

    I would see what Hastings does... then do the opposite. If there's a CEO know for acting first and thinking later (later being after being burned in effigy by his customers) it would be Hastings

  • Report this Comment On August 17, 2012, at 9:44 AM, phexac wrote:

    Hastings knows the FUTURE, the BEARS, the CONSUMERS, and NETFLIX...oh wait.....

    Such a dumb article dude.

  • Report this Comment On August 17, 2012, at 10:00 AM, Brent2223 wrote:

    JimmyZangwow - great post, I agree 100%. The big boys don't make their money buying on the open market, so there are other motives here. Plus, someone making a move with 0.004% (or whatever negligible amount...) of their net worth ain't conveying a bullish message to me.

    And buying before the lockup is done (Thursday was nothing, wait for November), on an IPO done to monetize insiders investments, is quite a, lets say, risky move.

  • Report this Comment On August 17, 2012, at 8:41 PM, hicknhixville wrote:

    Facebook will be a penny stock within a year. Just pump and dump nonsense. I figure Jesse Eisenberg could run the company as well as Zuckerberg. He would at least look better in those hoodies.

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