Some fast-growing companies trade at valuations that just don't make sense. Though many of these stocks probably present worse probabilities of success than a casino, a rare few are well deserving of their unthinkable premiums. What separates them from the rest? Two things: excellent economics and massive market opportunity. Case in point: Facebook (NASDAQ:FB) and Amazon.com (NASDAQ:AMZN) -- two top stocks for investors looking for growth.
Facebook's business model inherently drives demand through the network effect. With each additional user, the platform becomes more useful -- both for users and advertisers. Nowhere is Facebook's network effect more evident than in its continually improving engagement rate, or the percentage of monthly active users, or MAUs, who use Facebook on a daily basis.
In the company's first-quarter results, 60% of its 1.1 billion MAUs used Facebook on a daily basis versus 58% of its 900 million users in 2012. In the U.S. and Canada, growing engagement was even more evident, with 92% of users accessing Facebook on a daily basis compared with 70% last year.
Facebook has an excellent cost structure, too. Though it has relatively low advertising rates, its low expense base allows for proportionally higher levels of profitability and returns on capital than competitors with an ad network business model. Google, for instance, paid out a whopping $2.96 billion (25% of advertising revenues) to its partner sites. As a publisher, Facebook manages to sidestep this cost entirely.
Finally, Facebook offers advertising partners a unique value proposition in its lucrative database of its users, their social connections, and their Internet activities.
Combining network-effect-empowered scale, a low expense base, and a lucrative database, Facebook has an excellent and enduring business model.
Facebook's growth opportunities go hand-in-hand with the power of its network effect. As the platform becomes more useful with every user, more people are drawn to Facebook and engagement rates increase. With MAUs and daily active users up 23% and 26% from the year-ago quarter, Facebook's still seeing significant growth.
Amazon's competitive advantage is found in its enormous cost advantages. First, Amazon has scale in its online operations. As ranked by Experian Marketing Services, Amazon captured a whopping 46.4% of Web traffic among the top 10 most visited retail stores the day after Christmas -- that's more than three times the traffic for runner-up Wal-Mart. Second, when combined with scale, Amazon's efficient online operation with no need for a physical retail presence allows the company to run on a proportionally smaller fixed-asset base than bricks-and-mortar competitors.
Investors only need to look at Wal-Mart's $469 billion in revenue in the trailing 12 months and compare it with Amazon's $64 billion in revenue to see a massive market opportunity. But even if Amazon fails to steal customers from Wal-Mart and other bricks-and-mortar peers, there is plenty of opportunity in developing markets. More than half of the world's Internet users come from developing markets, yet Amazon sells directly in only nine countries outside the U.S. and Canada. As Amazon continues to expand internationally, it could continue to see revenue growth rates in excess of 20% for years to come.
Facebook and Amazon may trade at expensive premiums, but don't expect these stocks to reach prices that seem reasonable anytime soon. Backed by excellent economics and outstanding market opportunities, they are well deserving of their premiums, making them top stocks for investors looking for growth. Though their valuations may look risky, the underlying businesses look solid as ever.
I've added both stocks to my brief list of outperform CAPScalls. What do you think? Will Amazon and Facebook outperform over the long haul? What are the top stocks you are looking to for growth?
Fool contributor Daniel Sparks has no position in any stocks mentioned. The Motley Fool recommends and owns shares of Amazon.com, Facebook, and Google. Try any of our Foolish newsletter services free for 30 days. We Fools don't 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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