Facebook, Inc. Earnings Tomorrow: Another Blowout?

Facebook may beat analyst expectations when it reports second-quarter earnings tomorrow. But that doesn't mean the market will react positively.

Daniel Sparks
Daniel Sparks
Jul 22, 2014 at 9:00AM
Technology and Telecom

When it comes to facing off against analyst estimates, Facebook (NASDAQ:FB) is on a roll. Can the company report another blowout quarter tomorrow?

Facebook's history of monstrous quarters
As Facebook shifts its business to mobile, it has consistently crushed analyst estimates. The average surprise factor for Facebook earnings per share in the past four quarters is a whopping 31%. On the top line, too, Facebook has been outperforming expectations. In fact, for seven quarters in a row Facebook has beat top-line estimates. Consider Facebook's most recent quarter: it posted year-over-year revenue growth of 72%, compared to expectations of growth for 60%.

Going into Facebook's second quarter, analysts have big expectations again. The consensus estimate is for $2.81 billion in revenue and $0.32 in non-GAAP EPS. This is growth of 68% and 55%, respectively.

Considering Facebook's history of recent upside surprises, it's likely that Facebook will beat estimates again.

And giving further credence to a potential beat, it's worth nothing that $2.81 billion in revenue marks conservative sequential growth compared to the sequential growth in the year-ago quarter. $2.81 billion is up 12% from Q1's $2.5 billion. In the year-ago quarter, Facebook recorded much higher sequential growth of 24%.

But here's the catch...
Facebook has to beat estimates meaningfully in order to please the Street. Why? Facebook's extremely agressive forward-looking valuation. The stock has a price-to-sales ratio of 20. Compare that to Google, with a price-to-sales ratio of 6.5. Facebook isn't just a growth stock. It's a growth stock on steroids. This sort of premium demands that a company continually exceeds expectations.

Case in point, even though Facebook crushed estimates last quarter, the stock fell in the next two trading days. To be fair, however, the stock eventually rebounded and is up 13% in the past three months. But the initial market reaction to what seemed to be a blowout quarter suggests that it takes more than beating estimates for Facebook to really impress investors.

And given the rosy outlook that is priced into Facebook stock, other key metrics will also be closely scrutinized. In a recent article I argued investors should look for mobile ad revenue to account for 62% of total ad revenue or greater; daily active users should grow to around 834 million, up from 802 million in Q1; and Facebook's engagement rate should continue its upward trend, hitting 63% or higher.

So, Facebook is expected to post some big numbers. And it likely will. But given the bullish growth assumptions priced into Facebook's stock, investors will be better off not trying to play the earnings guessing game; even if Facebook beats expectations, there are too many factors Facebook investors are scrutinizing to know how the market will react.

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Instead of focusing on whether Facebook will beat estimates enough to impress the Street, simply use the expectations in this article as a way to get a pulse-check on this fast-growing business. If the company continues to meet and exceed expectations, it's probably best for shareholders to hold on to this winning company. On the other hand, if Facebook reports unimpressive results, search for an explanation in the report and the earnings call that will follow the report to see whether it is a real business concern or a blip in the social network's journey.

Most of all, investors may want to be on the lookout for a sell-off. Facebook is an excellent business, but it would be nice to get the company at a better price.