Forget Momentum: Facebook Presents an Opportunity

Facebook, like other "momentum stocks," have collapsed in a Nasdaq sell-off, but unlike its peers, does this loss now create a good investment opportunity?

Apr 7, 2014 at 11:30AM

Social media has been one of the hardest-hit industries in the market, with stocks like Yelp (NYSE:YELP), Twitter (NYSE:TWTR), and LinkedIn (NYSE:LNKD) now trading well off their 52-week highs. Yet, while many of these stocks are well-deserving of this pullback, Facebook (NASDAQ:FB) may be a company whose stock presents a good opportunity following these large losses.

What are you willing to pay?
No one's arguing that Facebook is undervalued, or that it couldn't fall lower, even after a 20%-plus decline from its all-time high. However, relative to its peers, Facebook may be fairly valued, and with its growth, that valuation may present an opportunity.

With that said, as momentum stocks continue to fall -- specifically in social media -- investors must determine the price they are willing to pay as these companies become cheaper. The chart below shows the current cost following the substantial losses within this space.

CompanyForward P/E Ratio
Facebook 33.9
LinkedIn 66.1
Yelp 183.5
Twitter 205.1

As you can see, Facebook is considerably cheaper than any of its peers, relative to one of the key metrics in determining value, which is a company's price times forward earnings. 

With Facebook's growth accelerating in each of its last four quarters last year, its total revenue growing 55% in 2013, and its operating margins at 37%, is 33.9 times forward earnings really that expensive? To answer that question, consider the lingering problems faced by Facebook's peers, and the multiples each of them are given.

More expensive despite more problems
At 66 times earnings, LinkedIn trades at a near 100% premium to Facebook. And while its 57% top-line growth was marginally better than Facebook last year, Sun Trust analyst Robert Peck has reminded investors that LinkedIn's guidance implies a 20% drop in revenue growth for 2014. That's a major drop for a company with such a pricey multiple.

Yelp has declined nearly 35% from its 52-week high in March, but as profiled in a previous article, much of that loss is in connection to a scandal regarding the company boosting the reviews for paying advertisers and punishing businesses who refuse to advertise on its site. Thus, with its entire business model being questioned -- and with 2,046 FTC complaints -- it'd be quite difficult to justify paying 183.5 times forward earnings.

Lastly, Twitter has lost more than 40% of its valuation since its post-IPO highs. These losses accelerated after its fourth-quarter earnings showed that Timeline views fell 7% versus the prior quarter, and its monthly active users grew only 4% in the same period. For a company trading at 205 times next year's earnings, it already looks as though its growth could be decelerating.

Is the forward earnings estimate accurate?|
With all things considered, Facebook looks like the best option. More important, 33.9 times forward earnings is not expensive for a company with this level of growth. However, there is another element to the equation, and that is the actuality of future earnings. 

For example, Twitter may trade at 205 times next year's earnings, but this is a company that has an operating margin of negative 95%. Therefore, it's tough to imagine Twitter improving enough to become profitable.

Facebook, on the other hand, will likely exceed EPS expectations. According to Yahoo! Finance, there are 42 analysts who cover Facebook, and the average EPS estimate for this year is $1.26. 

What's interesting about the $1.26 estimate is that it has been revised higher by only one penny in the last 60 days.  Yet, last month, Facebook announced the launch of its video advertisements, a service that consists of 15-second advertising slots sold to four advertisers for $2 million a day.

Using simple math alone, this could add nearly $3 billion to the company's revenue run rate. And as profiled in an article following Facebook's launch news, Facebook could top out with almost $15 billion in video advertising revenue, depending on price increases and the number of advertisers. This service is a new growth driver for the company, making its valuation that much more attractive. 

Final thoughts
There are two key elements in valuing Facebook today following the decline: First, it's significantly cheaper than its peers; second, video advertising has not been revised into EPS expectations Therefore, Facebook is likely significantly cheaper than 33.9 times forward earnings.

While Facebook may continue to fall with the Nasdaq sell-off, its losses should be seen as an opportunity. Meanwhile, peers Twitter and Yelp are simply correcting to levels that are more appropriate, and they could have a lot farther to fall. 

3 stocks poised to be multi-baggers
The one sure way to get wealthy is to invest in a groundbreaking company that goes on to dominate a multibillion-dollar industry. Our analysts have found multi-bagger stocks time and again. And now they think they've done it again with three stock picks that they believe could generate the same type of phenomenal returns. They've revealed these picks in a new free report that you can download instantly by clicking here now.

Brian Nichols has no position in any stocks mentioned. The Motley Fool recommends Facebook, LinkedIn, Twitter, and Yelp. The Motley Fool owns shares of Facebook and LinkedIn. 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.

Money to your ears - A great FREE investing resource for you

The best way to get your regular dose of market and money insights is our suite of free podcasts ... what we like to think of as “binge-worthy finance.”

Feb 1, 2016 at 5:03PM

Whether we're in the midst of earnings season or riding out the market's lulls, you want to know the best strategies for your money.

And you'll want to go beyond the hype of screaming TV personalities, fear-mongering ads, and "analysis" from people who might have your email address ... but no track record of success.

In short, you want a voice of reason you can count on.

A 2015 Business Insider article titled, "11 websites to bookmark if you want to get rich," rated The Motley Fool as the #1 place online to get smarter about investing.

And one of the easiest, most enjoyable, most valuable ways to get your regular dose of market and money insights is our suite of free podcasts ... what we like to think of as "binge-worthy finance."

Whether you make it part of your daily commute or you save up and listen to a handful of episodes for your 50-mile bike rides or long soaks in a bubble bath (or both!), the podcasts make sense of your money.

And unlike so many who want to make the subjects of personal finance and investing complicated and scary, our podcasts are clear, insightful, and (yes, it's true) fun.

Our free suite of podcasts

Motley Fool Money features a team of our analysts discussing the week's top business and investing stories, interviews, and an inside look at the stocks on our radar. The show is also heard weekly on dozens of radio stations across the country.

The hosts of Motley Fool Answers challenge the conventional wisdom on life's biggest financial issues to reveal what you really need to know to make smart money moves.

David Gardner, co-founder of The Motley Fool, is among the most respected and trusted sources on investing. And he's the host of Rule Breaker Investing, in which he shares his insights into today's most innovative and disruptive companies ... and how to profit from them.

Market Foolery is our daily look at stocks in the news, as well as the top business and investing stories.

And Industry Focus offers a deeper dive into a specific industry and the stories making headlines. Healthcare, technology, energy, consumer goods, and other industries take turns in the spotlight.

They're all informative, entertaining, and eminently listenable. Rule Breaker Investing and Answers are timeless, so it's worth going back to and listening from the very start; the other three are focused more on today's events, so listen to the most recent first.

All are available for free at www.fool.com/podcasts.

If you're looking for a friendly voice ... with great advice on how to make the most of your money ... from a business with a lengthy track record of success ... in clear, compelling language ... I encourage you to give a listen to our free podcasts.

Head to www.fool.com/podcasts, give them a spin, and you can subscribe there (at iTunes, Stitcher, or our other partners) if you want to receive them regularly.

It's money to your ears.

 


Compare Brokers