There is no better example of a great company under a temporary cloud than Facebook. Facebook offers users unique communications services (e.g., Facebook, Instagram, Messenger and Whatapp) while offering marketers uniquely powerful advertising tools. Its business model demonstrates the power of the network effect to provide a durable competitive advantage.
Facebook is truly a growth company. From 2012 to 2017 its revenues grew from about $5B to about $40B (it will likely generate over $50B in revenue for 2018). During that same period, its monthly active users (MAUs) grew from 1.06B to 2.13B and its daily active users (DAUs) grew from about 618M to about 1.49B. Even in the wake of recent negative headlines, its MAUs for 3Q2018 were up to 2.27B and DAUs were up to 1.49B.
Facebook is also a highly profitable company that generates substantial free cash flow. From 2013 to 2017, its free cash flow increased from $3.4B to $17.4B. Its return on equity is consistently above 20%. Its business model appears inherently profitable.
The negative headlines have not translated to negative growth or profitability. This is probably because for the vast majority of those who participate in Facebook's ecosystem, there is no other real alternative. That is durable competitive advantage. As one member of the digital advertising duopoly, Facebook should continue to grow as marketers must continue to pay advertising tolls to Facebook as a cost of doing business in an increasingly digital era. Facebook seems to be the modern day equivalent of a 20th century big city newspaper or network television station, except that its market is geographically unlimited.
The temporary clouds that surround Facebook have punished the price of its stock. At a current share price of $126.37, Facebook's market valuation is about $363B. The underlying intrinsic value of the company based on conservative assumptions regarding future free cash flow growth (5% for the next 10 years and 3% thereafter) and discount rate (5% for the next 10 years and 10% thereafter) is $393B, a discount to its current market capitalization (not even accounting for its net cash which provides an additional buffer) offering investors a reasonable margin of safety.
Disclaimer: the author owns shares of Facebook.
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