3 Ways Facebook Is Getting It Right

It's hard to believe that a company with over 1 billion users could lack relevance. The good news is, Facebook's advertising is becoming more relevant, and this is just one way the company has improved.

Mar 25, 2014 at 2:00PM

It's amazing to think that you can just say the word "Facebook" (NASDAQ:FB) and over 1.2 billion people worldwide know what you are talking about. That being said, the question for investors was never about whether Facebook was popular. The question was, would Facebook be a great site that never really made any money, or would the company finally figure things out? The good news for investors is Facebook seems to be getting its business model right in at least three ways.

In a world of competition, Facebook keeps growing
With over 1 billion monthly active users, and over 750 million active on a daily basis, Facebook is already huge. Astoundingly, these metrics grew by 16% and 22%, respectively, on a year-over-year basis.

The company occupies a space all its own in the social networking world. Twitter's (NYSE:TWTR) 240 million users are interested in real-time news and celebrities. Google's (NASDAQ:GOOGL) Google+ and its roughly 300 million users essentially use the service as an add-on to Google's other services. Tumblr and Pinterest are more image-focused, for sharing pictures and ideas, but contain very little personal information.

Facebook, on the other hand, is all about connecting to people you know. The site is a central place for people to stay in contact with friends, family, and acquaintances they might otherwise lose touch with.

Clearly, the service is growing with more overall users. However, mobile is the future and this is the first sign Facebook is getting its business right. Mobile use is outpacing overall user growth with a 49% annual increase. In the current quarter, Facebook reported mobile daily active users now exceed 550 million people.

With double-digit growth expected in smartphones and tablets, and the rise of connected devices like Google Glass and a deluge of wearable tech, Facebook is getting mobile right. While Twitter claims a higher percentage of mobile users (76% versus Facebook's 45%), the sheer size of Facebook's untapped mobile users is a massive opportunity.

Relevance is key
One of the big problems with Facebook's advertising strategy in prior years was the company wasn't very good at targeting ads. However, this is the second way Facebook is now getting it right; its advertisements are more relevant.

This is a key difference between Facebook and its major competitors. Google+ doesn't use ads because Google makes billions of dollars from search and believes this ad-free environment makes the service more attractive. However, for most people, Google+ is more about other Google services and is not a site they actively seek out.

Where Twitter is concerned, the company is just beginning to delve into advertising, but the lack of personal information is user profiles could be a detriment. In addition, a Twitter feed can be consumed with retweets about things that someone else said. This is far from the treasure trove of personal information found on the typical Facebook profile.

It all comes down to this
While better advertising relevance and strong mobile growth are important, ultimately investors want growth in earnings and cash flow. Facebook's free cash flow shows the third way the company is getting its business right.

In the current quarter, Facebook generated $0.12 of core free cash flow per dollar of revenue. While Google did better with $0.20, Google also has many more years of experience in advertising than Facebook. By comparison, Twitter managed to generate (on a non-GAAP basis) just $0.06 of core free cash flow per dollar of sales.

In the end, this huge company is getting bigger and better at the same time. Facebook's mobile apps are now stable and useful, and the company's advertising is becoming more relevant. The stock isn't for the faint of heart at over 50 times projected earnings for 2014. However, if the company continues to improve its advertising and cash flow, today's price could represent a good long-term buying opportunity.

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Chad Henage has no position in any stocks mentioned. The Motley Fool recommends Facebook, Google, and Twitter. The Motley Fool owns shares of Facebook and Google. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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