Facebook (NASDAQ:FB) and Alphabet's (NASDAQ:GOOG) (NASDAQ:GOOGL) Google might initially seem resistant to the novel coronavirus pandemic. After all, both companies generate most of their revenue from ads, aren't exposed to supply chain disruptions, and could continue operating as their employees worked from home.
However, the COVID-19 crisis could still exploit both companies' key weaknesses and cause significant slowdowns in their core ad businesses. Let's examine the risks to see if Facebook and Alphabet can withstand the incoming headwinds.
Facebook and Google are both exposed to China
Facebook was banned in mainland China in 2009 after the Urumqi riots. Google exited the country in 2010 after clashing with the government over alleged cyberattacks. Yet both companies still generate billions of dollars in annual revenue from Chinese advertisers trying to reach overseas customers.
Pivotal Research analyst Brian Weiser estimates Facebook generated $5 billion to $7 billion in sales from Chinese advertisers in fiscal 2018, which equaled roughly 10% of its total revenue. The Information estimated that Google generated about $3 billion in ad revenue from the "Greater China" area (including Hong Kong, Macau, and Taiwan) in 2018, which would account for about 2% of Alphabet's revenue.
Neither company offers clear disclosures regarding China. In their latest 10-K filings, Facebook admitted to generating "meaningful revenue from a limited number of resellers representing advertisers based in China," while Alphabet didn't mention the country at all.
China's coronavirus infection rates are decelerating and many businesses are reopening. However, those companies will likely dial back their ad spending and focus on domestic ad platforms -- including Baidu, Tencent's WeChat, Weibo, and ByteDance's Douyin (TikTok) or Toutiao -- instead of Facebook and Google. That shift could throttle both companies' ad revenue this year.
Pausing the global economy will reduce ad sales worldwide
To deal with the pandemic, many countries and regions are banning public gatherings as retailers and restaurants temporarily close their doors. Companies could resort to layoffs as their cash flows dry up, and rising unemployment rates could lead to lower spending and debt defaults. Those headwinds will likely trigger a global recession and cause consumer sentiment to plummet worldwide.
As consumers spend less money, companies will also slash their advertising budgets. As two of the largest digital advertising platforms in the world, Facebook and Google will bear the brunt of that slowdown. Last year, Facebook generated nearly 99% of its revenue from ads, while Alphabet generated 83% of its revenue from Google's ads.
Facebook wasn't a public company during the Great Recession of 2008-09, but Google's revenue rose just 9% in 2009 after 31% growth in 2008 and 56% growth in 2007. We could see a similar slowdown for both tech giants if the global economy grinds to a halt.
But should investors sell Facebook and Alphabet?
That outlook sounds dire, but the global economy will eventually recover. Facebook and Google have the scale and cash flows to outlast smaller ad platforms during market downturns, and they'll start growing again once the crisis ends.
Facebook and Alphabet both shed nearly 30% of their market caps over the past month, and those declines could worsen. However, investors should take a deep breath and focus on their long-term prospects. Both companies survived the Great Recession, and they'll likely weather the coronavirus headwinds and continue growing over the next decade. Investors should be aware of their aforementioned weaknesses, but they shouldn't panic and dump either stock.